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BERL urges Cullen to pursue export-friendly route

A call to change the Reserve Bank's current macho stance on inflation towards a more 'export-friendly' policy environment has been made in an open letter to the incoming Finance Minister, published as part of BERL's post-election assessment of New Zealand's economic prospects. The economists however, do not see a need to change the Policy Targets Agreement - but do stress that "a change in the attitude and behaviour of the central bank authorities" is criticially required.

BERL's outlook hinges on the maintenance of the exchange rate at its current level which helps the export recovery to continue and, ultimately, translates into an economy-wide sustainable recovery.

"We thought an export-led recovery was on its way twelve months ago however", explained BERL Forecasts editor Ganesh Nana, "but it fizzled-out in the face of the inexplicable appreciation of the Kiwi during the first six months of this year. We are worried that will happen again, particularly as the RB seems intent on tightening monetary conditions despite the fragility of the current recovery".

For some time BERL has taken the view that, despite the Reserve Bank's forecasts, the exchange rate will depreciate to and then stay fairly close to 50 US cents (and about 54 on the TWI). If the new government gains credibility for stability of the present competitive exchange rate, then this and the generally positive stance could bring stronger growth forward into late 2000.

"On the contrary, our assessment will need to be drastically revised (in the negative direction) if the Kiwi does in fact appreciate by the 10% forecast by the Reserve Bank", warned Mr Nana.

With a competitive exchange rate though, growth is expected to accelerate from a 2.0% average in the year to March 2000, to 2.6% and then 3.3% in the following two years.

December 1999

The change of administration provides a unique opportunity for a re-think in the operation and implementation of monetary policy. In our view, there is no need to change the Policy Targets Agreements - the words are already there. It is a change in the attitude and behaviour of the central bank authorities that is required to shift the current macho stance on inflation towards a more 'export-, growth- and employment-friendly' macro environment to the benefit of NZ businesses, producers, employers and workers.

We confess to experiencing an eerie feeling of déjà vu when preparing this forecast. Not dazzling, but respectable growth in merchandise exports is beginning to emerge and we are forecasting moderate but sustainable export-led recovery. Twelve months ago however, we were reporting similar signs of an imminent export-led recovery. That recovery, however, was subsequently snuffed-out by the inexplicable appreciation of the Kiwi during the first six months of 1999.

That experience only serves to illustrate the paramount importance of the 'market mechanism' delivering an appropriately competitive exchange rate to ensure an orderly adjustment process in the face of a persistently large external account deficit. We urge the authorities to not stand in the way of such a process and, in particular, we are severely critical of both the Reserve Bank's and the Treasury's recent forecasts which incorporate an appreciation of the currency over the forecast horizon.

On the basis of the Kiwi remaining at its present competitive level, we forecast a tradable sector revival with GDP growth averaging 2.0% in year to March 2000, accelerating to 2.6% and 3.3% in the following two years. In this favourable outlook, sustainable employment expansion of the order of 1.9% (or 40,000 new jobs pa) by the end of the forecast horizon is projected. Given a continued, but declining, migration outflow this moves the unemployment rate down to 5.2% in June 2002. CPI inflation jumps in the short-term as the surge in world oil prices translates through to petrol prices at the pumps. On the assumption that crude prices remain near US$25/bl, consumer price inflation remains well within the 0%-3% target range at a projected 2.1% pa over the medium term.

NZ's trading performance remains problematic over the medium-term, with the merchandise trade balance deteriorating rapidly in the June 2000 year due to the delay in the export recovery as well as 'one-off' frigate imports.

Thereafter, with import growth beginning to slacken and export performance improving we see the current account balance stabilising near 8.5% of GDP over the forecast horizon. Nevertheless, an orderly "market adjustment" process through the maintenance of a competitive exchange rate should see this decline in the medium to longer term.


02 December 1999
DEAR DR CULLEN (cc Dr Brash)

While our analysis of the short-term prospects for the NZ economy remains principally unchanged from that in our previous forecasts, we nevertheless believe the change of administration does provide a unique opportunity for a re-think in the operation of monetary policy.

In light of the recurrent monetary-induced downturns experienced by the NZ economy over the past decade or so (refer to our analysis in September 1999 BERL Forecasts Feature "Which way now?"), the time is ripe for a shift in the current macho stance on inflation towards a more 'export-friendly', 'growth-friendly' and, most importantly, 'employment-friendly' macro policy environment. We unequivocally urge you to pursue this issue as a matter of urgency.

Indeed, we were heartened by your comments prior to the election,

"We want to ensure that the Reserve Bank pays appropriate attention to the need to minimise the adverse impacts on the real economy, including excessive appreciation of the exchange rate," Dr Cullen said.
The Dominion 11 November 1999

We would humbly remind you however, that this road has indeed been travelled before. Recall, in December 1996 the then incoming Treasurer, Mr Peters, managed to successfully modify the Policy Targets Agreement (PTA) by broadening the inflation target range to 0%-3% and, crucially, adding the phrase,
"…so that monetary policy can make its maximum contribution to sustainable economic growth, employment and development opportunities within the New Zealand economy."

Unfortunately, in our view, the RB negated the intention of these modifications through their narrow interpretation of the changes.

Indeed we would go as far as to say that there is no need to change the PTA - the words are already there - it is a change in the attitude and behaviour of the central bank authorities that is critically required. We believe success in reforming the actions of the RB has the potential to be your administration's single most influential impact on NZ businesses, producers, employers and workers.

By viewing the broadening of the range in 1996 as just shifting the mid-point target from 1% to 1.5% - and further arguing the only contribution of monetary policy to sustainable economic growth to be the achievement of price stability - the monetary authorities revealed an unnecessarily short-sighted outlook.

We would argue a longer-term horizon is needed. The principal long-term weapon against inflation is to protect, enhance and expand the productive capacity of the economy - through investment in both people and natural as well as physical resources. Sadly, the impact of the recurrent monetary cycles and the uncertainty as to future prospects takes its toll in progressively eroding the economy's productive capacity. So, while inflation may remain under control in the short-term, little is done to tackle the fundamental problems facing the NZ economy - and hence, its people.

The structural deficit that needs to be confronted is no more graphically illustrated than in the accompanying chart.

One response to this apparently insatiable appetite for imports and the consequential external deficit, is to harangue the NZ populace for spending too much and not saving enough.

An alternative line of thought, rather than lament our inability to save, places emphasis on the need for NZ to earn more. In order to do so, the requirement for NZ industry to be able to compete externally is paramount.

A 'business-friendly' environment, where export and import-competing industries are not ankle-tapped as soon as they get to their feet and break into a jog, would be an ideal start.

Oh, and by the way, congratulations! And welcome!

Yours sincerely,

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