A Macro Interpretation of Economic Theory From the Great Depression: Australia vs. Canada

This paper sets out and tests a simple macro model for an open economy. The test period covers the years 1926 to 1939 for Canada and Australia. A component analysis of annual changes in real income for the two countries is presented using, the residuals from the estimated equations (consumption, exports and imports) plus annual changes in investment and government expenditures. A brief examination is made of the relationship between the balance of payments and changes in the money supply for each country. The results showed a strong correlation existed between the pattern of recovery in Canada with the U.S. and in Australia as compared to Britain. Generally Australia entered the depression period a year earlier and began its recovery ahead of Canada. Detailed analysis showed that Canadian recovery was export-led while for Australia recovery was generated to a large extent by investment. Although for Australia some contribution to recovery comes from the foreign sector, it does not come via an income effect since British income growth was slower than in the U.S. Very little correlation could be found between the overall balance of payments and changes in the Canadian money supply. For Australia a substantial correlation was found for the period 1930-1937.