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The competitiveness of a country's goods and services can depend on a variety of factors, but relative price has a major effect, and most statistical indicators of international competitiveness are derived from price measures. The real effective exchange rate (REER) is one indicator of this kind. When compiling a REER, there is a variety of price measures to choose from; this commentary uses a measure based on relative unit labour costs adjusted for changes in exchange rates (see box).
Australia's REER fluctuated a good deal during the 1990s, largely reflecting exchange rate movements. The REER fell by just over 22% between 1990-91 and 1993-94, then rose by almost 23% to 1996-97. But it has fallen by more than 27% during the past four years, putting Australia in a more competitive position than a decade earlier.
Real effective exchange rate(a)
FACTORS INFLUENCING CHANGE
Changes in a nation's competitiveness are the outcome of many interconnecting influences. Most fundamental in the long run are such factors as technological advance and productivity improvement.
Changes in a REER indicator reflect the relative pace of change in productivity and prices in Australia and overseas. And because our headline indicator of competitiveness focuses on unit labour costs, its movements can be dissected into the influences of three factors:
The first two factors combine to generate shifts in Australian 'unit labour costs' - it is the pace of wage rises compared with the pace of productivity improvement that matters, rather than wage rises alone. As discussed in the commentary Productivity, Australia exhibited good productivity performance during the 1990s relative to earlier periods. Also, Australian wage increases were more modest than in some earlier decades.
Nevertheless, relative unit labour costs changed only marginally between 1990-91 and 2000-01 exchange rate movements were the major influence on changes in Australia's international competitiveness during the past decade.
In recent years, there have been fairly wide fluctuations in the value of the Australian dollar relative to the currencies of our major trading partners. But overall there was a fall during the past decade - between 1990-91 and 2000-01, our exchange rate with the US dollar, for example, fell by 34%. There were also falls relative to the currencies of other major trading partners such as the Japanese Yen (down almost 41%) and the United Kingdom pound (down almost 24%). Other things being equal, these depreciations have made Australia more competitive.
LINKS TO OTHER DIMENSIONS OF PROGRESS
Enhanced international competitiveness in both foreign and domestic markets tends to improve Australia's international trade balance and increase national income.
Reduced rates of inflation (including wage inflation) relative to Australia's trading partners and productivity improvements tend to enhance Australia's international competitiveness.
See also the commentaries National income, Productivity, Inflation, and Openness.
1 All data in this commentary are from Australian Bureau of Statistics, various issues, Australian Economic Indicators, Cat. no. 1350.0, ABS, Canberra; and the Commonwealth Treasury, various issues, Economic Round-up, AGPS, Canberra.