Three roads to recovery: The RBA's scenarios for the Australian economy (COVID-19)

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Four times a year, the Reserve Bank of Australia shares its assessment of current economic conditions for Australia and the world. This document is called the Statement of Monetary Policy (SOMP). The SOMP for May 2020 sets out some serious challenges for the Australian economy.

I think, as a student, the most important section to focus on is Section 6: Economic Outlook. This is the section that I’ll be discussing in this post. 

Three scenarios for recovery

An important part of May’s SOMP is that the RBA has set out three scenarios for Australia’s recovery from COVID-19. 

Let’s start with the RBA’s “baseline scenario”. I think we can characterise this as the forecast where things steadily improve. Here are some elements of this scenario:

  • Australia’s social and business restrictions continue to be relaxed and are mostly removed by the end of September 2020

  • The spread of COVID-19 in Australia remains limited

  • GDP growth turns around in the September quarter and the Australian economy steadily improves.

Next, is the RBA’s more optimistic scenario. Here, Australia is more successful in containing the virus’s spread; restrictions are eased much more quickly (well before September); and business and household confidence is not as damaged and can therefore recover more quickly. 

Finally, we have the RBA’s more pessimistic scenario. Here, the outbreak persists or flares up again, which would prolong restrictions and delay the reintroduction of activities such as international travel. This situation would result in greater damage to business and consumer confidence, with more jobs being lost and businesses failing. 

There are big differences in outcomes between the three scenarios. Have a look at the graph below.

A couple of things to note. The value of GDP in December 2019 is given an index value of 100. So, if GDP falls below the December 2019 level, the index will dip below 100; if GDP rises above the December 2019 level, the index will be above 100. 

Under the RBA’s baseline situation (pink), Australia’s GDP will grow beyond its December 2019 levels in around late 2021. In the optimistic situation (yellow), Australia’s GDP could turn positive by early 2021. And in the pessimistic scenario (the sad brown colour), Australia’s GDP will still be below the December 2019 levels going into 2022.

You can see the same thinking for unemployment in the graph below. Just look at the difference between optimistic and pessimistic situations. (With unemployment, the measure is the unemployment rate, so a lower number is better).

So what actually happens? Which scenario really takes place? We’ll have to wait and see.