This thesis investigates whether some of the reduction in Australian output volatility that took place in the early 1980s, can be explained by changes in US and Japanese output volatility. While there exists a diverse literature that investigates the structural causes of the international phenomenon of the moderation in business cycle fluctuations, little effort has gone into assessing the role played by the transmission of volatility as a potential source of lower volatility, which, in theory, could have a significant influence on the output volatility of a small open economy such as Australia.
Drawing on the business cycle literature to document the extent of Australia's economic interaction and integration with the United States and Japan, and to establish a theoretical understanding of the factors that bear on the transmission of volatility between economies, a simple regression model that controls for a variety of factors, as well as a multivariate GARCH model are employed to estimate the effect of US and Japanese output volatility on the amplitude of Australian business cycle fluctuations.
The estimation results reveal a foreign influence on Australian output volatility, as well as an effect of the latter on US and Japanese volatility, which is seen as evidence for the greater integration of all three economies into the world economy, and contemporaneous correlation in volatility due to shared exposure to common global shocks. The analysis of the international transmission of volatility is augmented by an analysis of the changes in the component variables of the business cycle over time, and other key macroeconomic variables, which suggests that other stabilising factors, such as changes in inventory management, labour market variables and monetary policy, have jointly contributed to a reduction in Australian output volatility.