Question 1

The decline in the number of Australian made cars over time is caused by a
combination of factors. Those factors are discussed below.
High Australian Dollar (AUD)
One of the factors that caused changes in demand in the numbers of cars made in
Australia over time is the high Australian dollar. Based on reports, the Australian
dollar has appreciated strongly against the US dollar (USD) over the past decade,
rising from less than US $0.5 in 2001 to a peak of over US $1.10 in 2011 (Garton et
al., 2012). The higher dollar makes it more expensive to invest in Australia compared
with other countries, and local branches of global companies are finding it more
difficult to argue the case for investing in Australian facilities. As can be seen from
Figure 1, the AUD has been on an upward trend against the USD. The AUD is now
around 33% above its post-float average of 75 US cents.

Figure 1. AUD against the US and the TWI (Source: RBA and Treasury)
Furthermore, the exchange rate is hurting the local car industry. If the Aussie
dollar was at the long term average of around $US75c locally made cars would be
around 20% more competitive against imports and in export markets (Garton et al.,
2012). Also, The high Australian dollar against the yen and the euro has exacerbated
the effect of imports in the car industry as consumers have less reason to source cars
from within Australia. Therefore, the value of the dollar is out of whack with
economic fundamentals, particularly the level of productivity in the Australian
economy when compared with other countries.
Customer Preferences
A significant shift in consumer preference away from large passenger vehicles and
towards fuel-efficient small vehicles such as SUVs and dual-cab pickups is another
factor resulting in the shift to imported cars. Australian consumers now have a clear
preference for smaller, economical vehicles such as the Mazda3, and for SUVs, which
are replacing the Commodore and the Falcon as the family car.

Figure 2. Top Selling Models for 2007 vs 2012
Figure 2 above shows how Australian consumers changed their preferences in
cars. For example, about 28,158 of mazda3 cars have been bought in 2012, which is
higher than that in 2007 of 23,444. Conversely, as for the Falcon family car, there is
high decline of the number of cars bought as shown in Figure 2 above. Furthermore,
in 2007, large passenger vehicles accounted for 17% of all Australian passenger
vehicle sales, while SUVs accounted for 23%, and in 2012, large passenger vehicles
accounted for only 7% of vehicle sales whereas SUVs now represent 35% (Ferriers
Focus, 2012). Therefore, customer preferences play an important role in driving the
shift in demand towards imports.
Australian Vehicle Sales
Another factor contributing to the decline in demand of Australian cars is the
continuous reduction in resale value of Australian made vehicles over the past years.
Also, downtown in government and fleet sales impacts the sales of locally built
vehicles. Sales of locally manufactured vehicles has been reported to down 16% in
2011 to just 11,927 units: Holden down 23.8%; Ford down 16.4%. This is a
continuation of the trend that has plagued local manufacturers recently, with sales
down approximately 50% in the last four years (Ferriers Focus, 2012).

Figure 3. 2012 sales by country of origin.
From 2007 to 2012, the market share of Australian made cars has dropped
from 19% to 13% as shown in Figure 3. A spike in sales of Hyundais and
Volkswagens drives this; Korean and German vehicles have largely absorbed this loss
of market share. Also, Australian manufacturers are also now under threat from China
and India; minor players that did not account for one vehicle back in 2007 as can be
seen in Figure 3 above. Furthermore, Australian government agencies are now buying
more imported vehicles than locally built cars, despite a clear vehicle selection
policy that has Made in Australia at its core. Figure 4 below shows how greater in
number the amount of imported cars compared to locally produced cars.

Figure 4. Locally produced and imported PMV cars sales
Free Trade Agreement & Government Support
Shortly after the free trade agreement (FTA) was signed between Australia and
Thailand in 2005, Thailand introduced a punitive sales tax on vehicles over three
litres and, as a result, compromised several vehicle export opportunities for Australia.
Therefore resulting in lower demand of local cars. The FTA with Thailand, has
opened the door to a flood of imports, but has seen a restriction on sales going the
other way. Contrariwise, while Thailand barely had an existence in the Australian
market prior to the FTA, they now account for approximately 14% of total sales as
shown in Figure 3.
Furthermore, deficiencies in the current Australian government support can also be
another key factor drivers to shift to imported cars. Those insufficient supports
include; strengthen and expand the core auto business of key suppliers, support
supplier business health/stress checks for recapitalizations and management
overhauls, particularly in smaller family owned businesses and also lack of support to
commercialization of technology (Hodgson, 2012).


Trends in Price Elasticity of Demand
Price elasticity of demand (PED) is defined as the responsiveness of the
quantity demanded of a good or service to a change in its price. In other words, it is
percentage change of quantity demanded by the percentage change in price of the
same commodity. In economics and business studies, the price elasticity of demand is
a measure of the sensitivity of quantity demanded to changes in price. It is measured
as elasticity that is, it measures the relationship as the ratio of percentage changes
between quantity demanded of a good and changes in its price. The price elasticity of
demand differs from one product-service to another.
The product chosen here is the Australian vehicle (Ford), and as the
percentage of quantity demanded changes by a smaller value than the percentage
change in price it has a relatively inelastic demand. That is if the percentage change of
the price of cars increases the percentage change of quantity demanded will decrease
by a smaller value. If the percentage change of the price of cars decreases the
percentage change of the quantity demanded of cars will increase by a smaller value.
The quantity demanded of a product such as cars is affected by various factors such as
the availability of substitutes, whether it is a necessity or luxury, what type of market
it belongs to and the time period. The table below highlights the price elasticity of the
variables.
Table 1. Long run price elasticities of car demand and use


TABLE 2B01 LONG RUN PRICE ELASTICITIES OF CAR DEMAND AND USE
Dependent variable Independent variable Price elasticity range Working value
Traffic (aggregate car use
in vkm)
Gasoline price 0.3 to 0.5 0.4
Car ownership Gasoline price 0.1 to 0.3 0.2
Car use (km per year per
car)
Gasoline price 0.1 to 0.3 0.2
Gasoline consumption Gasoline price 0.7 to 0.1 na
Fuel economy (L/100km)
pure efficiency
Gasoline price 0.1 to 0.2 0.12
Fuel economy (L/100km)
downsizing
Gasoline price approx 0.06 0.06
Fuel economy (L/100km)
behaviour
Gasoline price 0.1 to 0.2 0.12
Car ownership Car price 0.4 to 1.6 0.9
na not available.
Source OECD (1997, table 22, p. 109).
Question 2a
Patterns of Trade for the Australian Economy Since 1990s
Australia is the worlds 17
th
largest economy, with reported output as
measured by GDP in 2005 of US$630bn, approximately equivalent to that of Illinois
or Florida, one-twentieth of that of the United States as a whole or a little over one-
third of that of the United Kingdom (Eslake, 2007). Over the past four decades,
merchandise trade of Australian economy has grown at a much faster rate than growth
in world trade. Global production sharing has become a unique feature of the region's
economic landscape. Although Australia relies heavily on its overseas foreign
1`investment and employers, with hundreds of foreign companies operating in
Australia, it is also a high exporter of goods, services and capital, with 60 percent of
its exports going to the Asia-Pacific region.
To begin with, Australias exports of manufactures increased 5.5 per cent per
annum since 1990-91. Manufactures rose to $41.3 billion in 2010-11 compared to
$14.1 billion in 1990-91. Simply transformed manufactures (STM) mainly metals
(excluding Nickel from February 2003) increased from $5.4 billion in 1990-91 to
$14.1 billion in 2010-11 with an average growth of 5.3 per cent per annum.
Unwrought aluminium (worth $4.2 billion) and Unwrought refined copper & alloys
(worth $3.3 billion) were the largest products within STM exports in 2010-11
(Maddock & McLean, 2001). Furthermore, exports of Gold grew 6.1 per cent per
annum since 1990-91 up from $4.1 billion in 1990-91 to $14.3 billion in 2010-11
though Gold exports have dropped from a record high of $17.5 billion in 2008-09
(Battellino, 2010).
Services exports have continued to grow strongly. Rousing from $13.9 billion
in 1990-91 to $50.5 billion in 2010-11, averaging 6.8 per cent per annum. Over the
past 20 years, export volumes averaged a growth rate of 5.0 per cent per annum.
Despite the strong growth, Services share of total exports has fallen over the 20-year
period as a result of the very high prices received for Resources, especially Iron ore &
concentrates and Coal. In the years from 2007-08 to 2009-10, with a boom in foreign
students studying in Australia, Education-related travel was Australias largest
Services export, a 15.9 per cent per annum increase over the 20-year period.
Education-related travel valued at $15.8 billion in 2010-11 accounted for 31.2 per
cent of Services exports compared to 6.8 per cent in 1990-91 valued at $950 million.
However, in 2010-11 Education-related travel fell 12.5 per cent (kunetz, 1999).
Over the past 20 years, imports of goods and services increased 7.6 per cent
per annum, up from $67.4 billion in 1990-91 to $276.5 billion in 2010-11. Import
volumes grew 8.0 per cent per annum In 2010-11, imports of Intermediate & other
goods accounted for over a third of Australias imports. Consumption goods were the
second largest import category, followed by Services and Capital goods. Australias
imports of Consumption goods increased 8.9 per cent per annum over the past 20
years. The import value of Consumption goods rose to $63.6 billion in 2010-11
compared to $12.3 billion in 1990-91. In volume terms, imports averaged a growth
rate of 9.1 per cent per annum since 1990-91 (Forsyth, 2000).

Terms of Trade
Terms of Trade (ToT) refer to the ratio of price of exportable goods to the
price of importable goods. If a country terms of trade is more than 100%, implies that
the country exports is more than it imports and that capital is coming in. however, if a
country ToT is less than 100%, then there is more capital going out, the country needs
to buy more products outside. A rise in the terms of trade enables Australia to buy
more imports for a given quantity of exports and thereby increases domestic real
income. However, ToT volatility tends to induce volatility in consumer spending,
investment, economic growth and inflation, and has traditionally made
macroeconomic management more difficult.
Historically, Australias terms of trade was positively correlated with world
economic growth: when world economic growth was strong, the terms of trade rose,
and when world growth was weak, the terms of trade fell. In contrast, since 2000
Australias terms of trade have increased as can be seen in Figure 5 despite the
slowing of the world economy. Terms Of Trade in Australia increased to 91.50 Index
Points in the second quarter of 2013 from 91.30 Index Points in the first quarter of
2013. The Australian Bureau of Statistics reports Terms Of Trade in Australia.
Australia Terms Of Trade averaged 59.94 Index Points from 1959 until 2013,
reaching an all time high of 106.50 Index Points in August of 2011 and a record low
of 44.70 Index Points in November of 1986.

Furthermore, there are a number of factors that have led to a more stable and
relatively strong terms of trade. One factor is the diversification of Australias
exports, across both products and markets. A second factor, contributing to
Australias strengthening terms of trade, is significant falls in the prices of Australias
imports, especially for information and communications technology (ICT) goods. The
third factor, contributing to terms of trade stability, is a more stable global economy
relative to earlier times.

Figure 6. Terms of Trade and Import-Export price index
Figure 5. Australia's Terms of Trade since 2000 (Source: Australian Bureau of Statistics)
Figure 6 above shows the Australian terms of trade, export and import price
index from 1990 to 2010-11. From the figure, Australias terms of trade grew 87.6 per
cent between 1990-91 and 2010-11. This increase was mainly driven by the export
price index, up 97.6 per cent. The export price index grew particularly strongly since
2004-05, underpinned by price rises for commodities the import price index was 13.2
per cent higher in 2010-11 than in 1990-91 but has declined since 2000-01.

Relation with GDP growth rate
Recent developments in world markets have caused a substantial increase in
Australias terms of trade, that is the ratio of the prices received for our exports to the
prices paid for our imports. The terms of trade reached a 30-year high in 2005 after a
27% increase over the previous two years. Because it is a price measure, its impact on
economic activity is not reflected directly in a volume measure of GDP (Australian
Bureau of Statistics (2004) and Reserve Bank of Australia (2005)). However, changes
in the terms of trade can have an important impact on real incomes. For example, if
export prices are rising relative to import prices (i.e. the terms of trade are improving),
then the income accruing to Australian producers is increasing, and for a given
volume of exports, a larger volume of imports can be purchased. Thus changes in the
terms of trade reflect changes in the real purchasing power of the Australian economy
and this is likely to be reflected by changes in factor incomes, especially gross
operating surplus.
A measure of the strength of the Australian economy that incorporates these
changes is real gross domestic income. The difference between real gross domestic
income and GDP is an estimate of this terms of trade effect on Australias real
purchasing power. For information on the terms of trade effect and the calculation of
real gross domestic income, see (ABS, 2004). Figure 7 below shows the Australian
GDP growth rate since 2000.




Figure 7. Australia's GDP growth rate (Source: Australian Bureau of Statistics)
Furthermore, the GDP in Australia expanded 0.60 percent in the second
quarter of 2013 over the previous quarter. The Australian Bureau of Statistic reports
GDP Growth Rate in Australia. From 1959 until 2013, Australia GDP Growth Rate
averaged 0.9 Percent reaching an all time high of 4.5 Percent in March of 1976 and a
record low of -2.0 Percent in June of 1974. Australia's economy is dominated by its
services sector, yet its economic success is based on abundance of agricultural and
mineral resources.

Question 2b
Sectoral contributors of GDP in case of Australia since 1990s
Australia is often regarded as primarily a producer of agricultural
commodities, minerals and energy. Historically, these products have played an
enormously important role in Australias economic development, particularly in the
first 100 or so years after European settlement began in 1788. However, their relative
importance declined throughout the twentieth century. In 1900, farming, forestry and
fishing accounted for 20% of Australias gross domestic product (GDP), and mining
for a further 10%. At this time, the agricultural and mining sectors provided 95% of
Australias exports and jobs for about 30% of Australias workforce. GDP is an
estimate of the total market value of goods and services produced in Australia, in a
given period, after deducting the cost of goods and services used up in the process of
production (intermediate consumption), but before deducting the allowances for the
consumption of fixed capital (depreciation) (Maddock & McLean, 2001). The key
sectorial contributors of Australian GDP since 1990s include manufacturing,
agriculture, mining and services as shown in Figure 8. Over time, the structure of the
Australian economy has gradually shifted away from agriculture and manufacturing
towards services, with the mining industry growing in importance recently.

Figure 8. Employment by industry (Source: ABS, RBA)

Manufacturing
The development of manufacturing in Australia has been heavily influenced by
the small size of the Australian domestic market and the large distances from potential
export markets. Manufacturing has thus traditionally concentrated on the production
of goods, which would otherwise have been imported, rather than on production for
export. From Figure 8, it can be seen that, the 20
th

century saw the rise of
manufacturing. By the 1950s, the manufacturing industrys share of total employment
had risen to around 25%, from 15% at the turn of the century. However, Since the
1960s, the share of manufacturing in the overall economy has declined, although in
absolute terms manufacturing production has continued to expand.

Figure 9. Manufacturing trend (Source: Datadiary.com.au. 2011)
Furthermore, Figure 9 above showed how the share of manufacturing in the
overall economy has declined in the 1990s. Declining from about 15.85% to about
8.41%. The manufacturing has continued to decline as a share of total economic
activity, in part reflecting the effects of productivity gains and the out-sourcing of
peripheral and support functions. This has also occurred in other countries: but the
decline has been more rapid, and the manufacturing sector is now relatively smaller,
in Australia than in most other advanced economies (Eslake, 2007).
Agriculture
Agriculture has been a major contributor to Australias economic development
since European settlement began in 1788 (Eslake, 2007). In many respects, Australia
provides a relatively harsh environment for agricultural activities. For the size of its
population, Australia appears at first glance to have sufficient land. But more than
one-third of Australias land area is desert. Elsewhere, soils are generally thin and not
especially fertile. Except in the tropical north, rainfall is low and unreliable, while
there are few natural fresh water storages. In addition, Australian domestic markets
have always been small, so that Australian agriculture has been (and remains) much
more dependent on exports than the agricultural sectors of most other economies. In
Figure 8, the Agriculture sector has declined from 1990s to date. According to OECD
estimates, subsidies to producers from governments and consumers accounted for
only 5% of Australian farmers incomes in 2005.
Mining
The mining industry has played an important role in Australias economic
development and is a major contributor to Australias exports. Australias five most
important individual exports have been reported to be minerals or energy products.
Metal ores and minerals now account for nearly 15% of Australias exports, processed
and refined metals for over 10%, and energy a further 19% - proportions which have
risen sharply over the past five years as a result of rising prices for most of these
products. Australia is the worlds largest exporter of coal, iron ore, bauxite, lead,
zirconium and titanium; the second largest exporter of gold, zinc and uranium; the
third largest exporter of silver, nickel and aluminium; and the fourth largest exporter
of diamonds. It also produces significant quantities of copper, tin, manganese and salt
(Eslake, 2007). In Figure 8, the share of mining surged dramatically during the booms
in the 1850s and late in the century.

Figure 10. Mining Trend (Source: Datadiary.com.au. 2011)
Furthermore, interestingly mining comprises a smaller part of GDP today than it
did in 1996 as can be seen in Figure 10 where it was around 10% in 1996 before
decreasing to 8.54%. Maybe the Professional Services sector has been the biggest
beneficiary of the mining boom as measured by gross value added. The mining
industry in Australia is extremely capital-intensive, employing less than 1% of the
Australian work force but 11% of the nations net business capital stock. Australian
mining companies are typically responsible for the construction of port and railway
infrastructure associated with their operations, and for the provision of housing and
community amenities for their work forces, especially in remote areas.

Services
Notwithstanding the continuing significance of agriculture and mining as sources
of export income, and the historical importance of manufacturing as a focus of
government policy, the provision of personal, business, community and government
services accounts for nearly three-quarters of Australian production and employment
much as in other advanced Western economies. As can be seen from Figure 8, the
service sector expanded more in the 20
th
century. The growth of the services sector at
the expense of manufacturing has been the major enduring trend. This has been a
common feature across the developed economies not so surprising really given the
developed worlds balance sheet has been progressively leveraged up since the 70s.
furthermore, service industries have grown strongly over the past 50 years, rising
from around 60 per cent of total output in the 1960s to around 80 per cent recently. In
the 1950s, services were closely linked to manufacturing, with wholesale trade and
transport supporting the production and distribution of manufactured goods. Since
then, the share of distribution services has steadily fallen, consistent with the
declining relative importance of manufacturing and also agriculture (Eslake, 2007).
Major changes and reasons behind them
Major changes were observed in the trends of the sectorial contributors of
Australian GDP that includes manufacturing, agriculture, mining and services as
shown in Figure 8. The table below also highlights the major changes on those
sectors. For example, for the output, both service and mining sectors have increased
from 1960s to 200s. while, agriculture and manufacturing kept declining.
Table 2. Industry Shares of Activity, % (source: ABS, RBS, Withers et al, 1985)

Reasons behind those changes could be as a result of sharp increases in labour
costs, an over-valued exchange rate for the Australian dollar, the cumulative effects of
a long-term failure to match the productivity gains achieved by manufacturing
operations in other countries, and an abrupt 25% across-the-board reduction in tariffs
in 1973 (which was undertaken as a an anti-inflationary measure rather than a step
towards trade liberalization). In addition, motor vehicle and textiles, clothing and
footwear industries secured substantial increases in import protection in the second
half of the 1970s and early 1980s, but they fared no better than other areas of
manufacturing in terms of profitability or employment.



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