Lower interest rates over the coming year are set to drive the economy forward once the current episode of "overdone pessimism" has receded, according to BIS Shrapnel.

"We are witnessing an overblown crisis of confidence and the effects of a global credit squeeze, rather than a debt-constrained slowdown," said report author and economist, Rachael Logie. "National income growth remains strong, underpinned by the profits of the mining boom."

Logie added that current economic fundamentals remain sound, and in the case of residential property there is a significant pent-up demand which BIS Shrapnel expects to be released from 2009/10 as credit conditions start to ease.

"The external sector is also poised for a recovery, underpinned by sustained high demand for commodities and a significant depreciation in the Australian dollar over 2009 and 2010, which will boost competitiveness," Logie said.

"Total business investment activity is also expected to remain at high levels on account of sustained high demand for commodities and the backlog of work required to update the infrastructure network."

However, Logie warns that inflationary pressures will prevent interest rates from falling back to the low levels seen earlier this decade.