RTTNews - The International Monetary Fund or IMF, in its preliminary policy findings released yesterday, said the Australian economy would shrink by 0.5% this year, as domestic demand declines on lower commodity income, rising unemployment, and weak confidence. However, this is better than its forecast of a 1.4% drop in April.

At the same time, the IMF expects the economy to recover by 1.5% next year, driven by government spending, compared to a 0.6% growth forecast made in April.

The report said the output could remain below potential levels for some years, in turn reducing the core inflation. Also, the current account is forecast to remain in deficit.

The IMF said down side risks to the outlook could be that the world economy takes longer to recover, with significant spillovers to the Australian economy through commodity incomes, external demand and international capital markets. Moreover, a sharper than expected worsening of banks' assets, possibly from lower house prices, could deepen the downturn, although it was unlikely, it said.

On the other hand, upside risks could be the stronger-than-expected rise in demand from China. Further, the domestic and foreign economies could also be more responsive to the stimulus policies put in place, the IMF said.

Moreover, the report said if the outlook for growth and inflation weakens in Australia, the Reserve Bank has the scope to reduce the cash rate further.

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