The Socially Optimal Level of Saving in Australia, 1960‐61 to 1994‐95

In this paper a model is developed which determines the socially optimal level of saving for a small open economy. The model also determines the socially optimal disposition of saving between domestic capital accumulation and overseas asset accumulation. The model is then applied to the Australian economy for the period 1960‐61 to 1994‐95. For each year of that period socially optimal levels of saving, investment and the current account of the balance of payments are determined. Two main conclusions emerge. Firstly, while Australia under‐saved by an average of 1.7 per cent of GDP from 1974‐75 to 1994‐95, it over‐saved by an average of 5.3 per cent of GDP in the earlier period from 1960‐61 to 1973‐74. Secondly, Australia did not make optimal use of world capital markets to smooth consumption in the period from 1960‐61 to 1994‐95; although there is less evidence for this since 1984‐85, suggesting that deregulation of capital markets may have facilitated the optimal smoothing of consumption.