Economic Modelling Essay

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Pages: 22
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200533 ECONOMIC MODELLING

1. ABSTRACT
This paper explores and examines the factors that influence the cash rate in Australia from 2001-2011 through the testing of various different models. Numerous factors play a detrimental role in determining its significance of how the cash rate profoundly affects the economic growth in Australia. For this reason, it is essential that a comprehensive understanding of significant variables that affect the cash rate is achieved, thus carefully investigating and analysing the data of the independent variables from the Reserve Bank of Australia (RBA) who control the cash rate.
Significant factors that provide a valid explanation that influence the RBA’s decision in changing the cash rate for the last 10 years include the inflation rate, unemployment rate, and the exchange rate. Clearly, if the RBA makes poor decisions with its cash rate with regard to monetary policy decisions, it will not only generate scrutiny from the public, but their choices can result in a slowdown of Australia’s economic growth. For this reason, it is essential that valid empirical results are validated.
This report also evaluates previous literature and their research. Previous literature is assessed in order to encompass a greater understanding of regressions analyses models of the cash rate and to develop a more knowledgeable understanding of the theoretical framework of the cash rate and its determinants. When making decisions to adjust the cash rate, the Reserve Bank considers a number of factors. The degree of significance for the effects of the independent variables depends largely on how logical the results of the three distinctive models have been through the testing of the STATA regression model.
Through relevant literature findings, we have employed three distinctive models in measuring and formulating the expected changes of the three independent variables that influence the cash rate movement. The development of additional hypotheses and models will achieve required answers that will provide further insight

2. INTRODUCTION
The effects of the cash rate present grave importance, because of its strong relationship to market interest rates. Another word for the cash rate (short-term interest rate) is the interbank overnight rate. In Australia, the monetary policy decisions are expressed in terms of a target for the cash rate, with the Reserve Bank using its domestic market operations (‘open market operations’) to keep the cash rate as close as possible to the target set by the Reserve Bank Board. The latest benchmark interest rate in Australia was reported at 4.75 per cent.
In order to test the reliability of the determinants of the cash rate in Australia, various regression models will be tested. The testing of the regression models is to determine the accuracy and reliability of models for estimating how the determinants affect the cash rate in Australia. Over the last 10 years, there have been a range of factors that affect the cash rate in Australia but we will be looking at three specific determinants, which are the inflation rate, unemployment rate, and exchange rate.
The study of the effects of the Australian cash rate decisions is important because it is the core of monetary policy in Australia (Kearns et al. 2005). The reactions of financial markets to the Reserve Bank’s monetary policy stance (loosening, tightening or neutral stance) are essential for financial market participants (Kearns et al. 2005). The importance of the cash rate effects in Australia is furthered with the exchange settlement funds held by banks engages in the implementation of monetary policy.
The data of the past 10 years has generated increased research interest, mainly because of the imperative role that the cash rate plays in regards to the economic growth and welfare of Australians. The degree of significance for the effects of the independent variables depends largely on how logical the results of the
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