In my view one of the key reasons that Australia avoided recession in 2008-9 was the Reserve Bank of Australia (RBA) effectively is operating what I earlier have called a “Export Price Norm”. Here is what I earlier had to say about that:

One of the reasons why I think the RBA has been relatively successful is that it effectively has shadowed a policy of what Jeff Frankel calls PEP (Peg the currency to the Export Price) and what I (now) think should be called an “Export Price Norm” (EPN). EPN is basically the open economy version of NGDP level targeting.

If the primary factor in nominal demand changes in the economy is exports – as it tend to be in small open economies and in commodity exporting economies – then if the central bank pegs the price of the currency to the price of the primary exports then that effectively could stabilize aggregate demand or NGDP growth. This is in fact what I believe the RBA – probably unknowingly – has done over the last couple of decades and particularly since 2008. As a result the RBA has stabilized NGDP growth and therefore avoided monetary shocks to the economy.

Under a pure EPN regime the central bank would peg the exchange rate to the export price. This is obviously not what the RBA has done. However, by it’s communication it has signalled that it would not mind the Aussie dollar to weaken and strengthen in response to swings in commodity prices – and hence in swings in Australian export prices. Hence, if one looks at commodity prices measured by the so-called CRB index and the Australian dollar against the US dollar over the last couple of decades one would see that there basically has been a 1-1 relationship between the two as if the Aussie dollar had been pegged to the CRB index. That in my view is the key reason for the stability of NGDP growth over the past two decade. The period from 2004/5 until 2008 is an exception. In this period the Aussie dollar strengthened “too little” compared to the increase in commodity prices – effectively leading to an excessive easing of monetary conditions – and if you want to look for a reason for the Australian property market boom (bubble?) then that is it.

This morning the RBA had it regular monetary policy meeting and see here what the bank had to say:

“The inflation outlook, as assessed at present, would afford scope to ease policy further, should that be necessary to support demand…On the other hand the exchange rate remains higher than might have been expected, given the observed decline in export prices”

This is a pretty clear restatement of the “export price norm” (“the exchange rate remains higher than might have been expected, given the observed decline in export prices”). Note also the wording “support demand”. “Demand” is basically an other word for nominal GDP.

So yes, the RBA did not cut interest rates, but it has used the market and particularly the exchange rate channel to ease monetary conditions. This is pretty much in line with Bennett McCallum’s suggestion that small open-economies that operate monetary policy with interest rates close to zero should utilize the exchange rate as a policy instrument. This is what McCallum has called the MC rule.

So effectively – the RBA is indirectly targeting NGDP and seems to pretty well understand the McCallum’s MC rule as it continues to utilize the “Export Price Norm”. So Australia is hardly my biggest worry at the moment.