Negative Factors Dominate
Its time for a run-through of the factors in play for the NZ economy this year, the majority of which fall on the negative side but enough of which are positive to keep the economy growing at or above 2%. First the things causing growth to slow down.
NZD The NZ dollar on a trade weighted basis has risen 15% over the past year, hitting the profits of exporters. But this rise is essentially an adjustment from an undervalued position which delivered abnormally high profits rather than a move to growth-slashing over-valued currency levels as we saw for a while in the mid-1990s. We see the NZD rising a bit further but this will be mainly against the greenback which is falling from over-valued levels.
Terms of Trade The purchasing power of a set basket of merchandise exports declined 7.7% last year as export prices fell more than import prices.
Weather Lack of rain has reduced agricultural production this season and will leave animals in less than desirable condition going into Spring. In addition frosts have hit some crops such as grapes, slashing output. The result is extra downward pressure on primary sector incomes on top of that from weaker foreign prices and the higher NZ dollar.
Weak Foreign growth Our top 14 trading partners are picked to grow just 2.6% this year from 2.9% last year and 1.4% over 2001. This below average growth will tend to suppress commodity prices and the volume of demand for our exports.
Iraq War This event and its anticipation have affected confidence levels around the world and here in New Zealand, cutting willingness of consumers to spend and businesses to invest. The war is now over but its effects still linger.
SARS The outbreaks have led to strong downside risks to growth in Asian economies and our economy is being hit by reduced tourist numbers and sales of niche primary products to Asian countries such as mussels. It is unclear how long the effects of SARS will linger.
Labour Supply After over a decade of very good jobs growth which has taken our unemployment rate down sharply we have run out of a large stack of skilled motivated unemployed people. The upshot has already been an inability of many companies to grow output as fast as the orders have been coming in – construction most notably. This situation will ease slightly this year but we think not by all that much. Businesses are likely to take the opportunity provided by any slowing in the economy this year to get extra skilled people on board. In the wine industry for instance, in spite of the crop declining over 40% from last year many firms are carrying over to next year skilled people they don’t really need at the moment.
Electricity Supply and Prices Poor planning if not outright incompetence has seen NZ households being called upon to stop using so much electricity for the second time in three years. Businesses are already cutting production, cancelling planned capital expenditure, and consumers are likely to have their confidence levels and willingness to spend also negatively affected. The chances are the situation will get worse before it gets better.
Clearly there is a lot of uncertainty attached to the duration and intensity of each of the negative factors cited here, and there is a risk people get too pessimistic about our growth prospects. To help combat that pessimism here is a (shorter) list of factors which will underpin growth over the coming year.
Easy Monetary Policy Unlike 1998 when the Reserve Bank mismanaged monetary policy and caused mortgage rates at 11% despite the economy being in recession and inflation sitting below 2%, this time around they are well on the ball. Monetary policy has been slightly on the easy side of neutral since mid-2001 and interest rates have just been cut 0.25% with another 0.5% to come in the next few months. On top of that fixed interest rates are near record low levels as the Federal Reserve in the United States pursues an extremely easy monetary policy in the face of a weak US economy. Low interest rates clearly make it easier for businesses to get through a period of weak cash inflows without having to lay people off and slash capital expenditure.
Business Balance Sheets Businesses have enjoyed strong net cash inflows in recent years while keeping debt growth to a minimum. With hefty rises in funds on deposit the NZ business sector appears well prepared for a slowing in revenue growth – except perhaps in some portions of the dairying sector where irrational exuberance may have driven some people to pay too much for their assets and take on too much debt.
Tight Labour Market We believe there is growing awareness in the general community of the tightness in the labour market in favour of employees and this will tend to underpin consumer willingness to spend.
House Prices Average house prices have risen 10.4% over the past year and we expect another 5% - 10% this year. We see no evidence of prices on average moving to vastly over-valued levels and nothing to suggest a “correction” is required back toward trend as happened in 1998. Rising housing wealth will tend to underpin willingness of consumers to spend.
Dwelling Construction There appears to be a backlog of dwelling orders to fill and with net immigration expected to remain strong we see this sector operating at still high levels this year – though easing off late in the year.
Population Growth Net inward migration numbers have been at record annual levels recently and although we expect a pullback none has started yet. Nonetheless, we see the net population gain from this source easing toward 30,000 this year from 42,000 in the year to March.
As noted above, the list of negatives easily
exceeds the list of positives and NZ economic growth will
slow this year. At the moment we feel the growth risks lie
mainly on the downward side, with the greatest risk being
that the US economy does not accelerate away in the second
half of this year as is generally forecast. Failure of this
growth to eventuate will mean that our export growth will
not improve enough over 2004 to take up the slack which will
inevitably appear in the domestic sector in its lagged
response to the recent decline in the export sector. So it
is not this year’s growth which we are worried about as much
as next year’s if the world economy were to weaken further.
That is where most attention needs to be paid and where so
far things are headed in the wrong direction.