‘Snap back’ or slide down: The impact of a 10 percent recession on the growth path for Australian GDP

If the Australian economy shrinks by 10 percent in the first half of 2020 it will likely take at least 21 months before Gross Domestic Product (GDP) reaches the levels achieved in the December quarter of 2019. Australia has never experienced such a deep and long-lasting reduction in the level of its national income.

In the past it has only taken between three and 12 months to get back to the pre-boom level of GDP because previous recessions have been far shallower than the downturn being predicted by the Reserve Bank of Australia (RBA) this year. To put the RBA’s forecast 10 percent reduction in GDP into perspective, GDP shrank by 1.4 percent during the 1991 recession. The impact of COVID19 (the novel coronavirus) on the economy is expected to be seven times larger than the last recession experienced in Australia.

If the RBA’s forecast for the depth of the expected 2020 recession is accurate there is no chance that the level of Australia’s GDP will ‘snap back’ to it 2019 level in the coming months. To be clear, while the rate of growth of GDP may ‘snap back’ quickly, the level of GDP will not – and it is the level of GDP, not its rate of growth, that determines the level of employment, the level of consumer spending and the level of government revenue.

The distinction between the rate of GDP growth and the level of GDP is typically overlooked in policy and political debates in Australia because the mathematical distinction between rates and levels is of little policy relevance while the economy is growing steadily, as it had done since 1991. However, after a very large ‘shock’ to the level of output, the distinction becomes central to understanding how key economic variables are likely to behave in the coming years.

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