Cullen Speech To Trans-Tasman Business Circle
Speech To Trans-Tasman Business Circle
Hon Dr Michael Cullen, Minister of Finance
Embargoed to 2.30pm [NZ time] 7 March 2002
I am very pleased to have this opportunity to give you my perspective on the recent performance of the New Zealand economy and to describe what I see as the most important features of the economic terrain ahead. Amongst the latter - I am happy to say, as Finance Minister in a centre-left government - are some considered actions by the New Zealand government, specifically:
- A better balance in macroeconomic policy;
- A new approach to fostering innovation; and
- Initiatives on Trans-Tasman business law and taxation.
The New Zealand economy awoke to the new millennium with a more than slight hangover from the 1990s. During that decade, the growth rate improved, but it was heavily dependent on expanding private domestic consumption. That in turn was underpinned by a dramatic increase in private foreign borrowing, and to some extent by rounds of tax cuts. A strong - some would say overvalued - currency put a lot of pressure on export industries.
The end result was that we closed out the century with high private foreign debt, a balance of payments deficit of around seven percent of GDP, and an export sector that was both demoralised and operating with weakened balance sheets.
Two years into this century, the picture is a lot brighter. The Dispirin is back in the medicine cabinet. The economic indicators are stronger, and more balanced, than they have been since the mid 1960s. The balance of payments deficit has fallen to about 3.5 percent of GDP. Inflation is at 1.8 percent. Unemployment, at 5.4 percent, is close to thirteen year lows. Employment growth is strong, but it has been accompanied by an increase in immigration and a sharp rise in the participation rate which, at 66.4 percent, is the highest it has been in fifteen years.
The government for its part is operating with a fiscal surplus averaging around one percent of GDP, and forecast to rise to nearer 2.5 percent over the next three years. We have held government spending as a percentage of GDP, and it is fractionally lower than it was two years ago. Net crown debt has fallen from just under 22 percent of GDP in 1999 to just under 18 percent now.
The economy grew by 2.6 percent in the 2001 March year, and is forecast to grow by 3.1 percent in the current year. It is likely to taper in the next year to around 2 percent before lifting again to something like a three percent rate in the out years.
In short, today’s numbers reveal an economy that is growing steadily, with low inflation, rising employment, moderate unemployment, and a current account deficit that is very low by recent standards. Real wages and share prices have both risen. Government spending is at prudent levels, with healthy fiscal surpluses, and manageable public debt.
All of this at a time when the world economy has been through one of its more synchronised recessions, when confidence has been badly knocked by the events of September 11 last year.
After September 11, all optimism must be cautious. However, when the government published its economic and fiscal updates a week before Christmas there was some comment that the central forecasts were overly optimistic, and that the balance of risk was downside. Commentators pointed to a number of short term risks:
- commodity prices were at record highs, and so it was a long way down to any trough that might be driven by a global downturn;
- investor and consumer confidence surveys showed significant pessimism;
- there was a risk of an emerging drought, which would not only impact on agriculture but risk a repeat of, or even a worsening of, last year’s power crisis;
- the September 11 attacks meant that tourism was particularly exposed, and this was a key component of good recent economic performance.
In the event, these downside risks are largely dissipating, and a number of commentators are now revising up their short-term growth outlook as a result of recent developments and what looks to be better news out of the United States.
Export price falls have been matched, and at times outdone by import price declines, so the net effect on the tradeables sector has not been as negative as was feared. Immigration numbers have turned around dramatically, and this has lifted the construction sector. Business confidence is rebounding and the risk we saw of firms retreating into their shells and stopping hiring or investing does not seem to be occurring. Employment was up at the end of last year and new investment is taking place. Consumer confidence is holding up and retail spending is ahead of market expectations. Tourist numbers have bounced back, largely because the composition of tourists has changed. It is raining - too much for the proper enjoyment of summer in fact. Tax returns are even slightly ahead of forecast. And there has been no real implosion or contagion in the global marketplace.
I am happy to concede an element of good luck in these results. We have had good growing weather at a time when commodity prices, especially for the sorts of commodities New Zealand produces have been at cyclically high levels.
One could hypothesize some causal relationship between economic stewardship by a “wet” finance minister and increased rainfall. However, I cannot claim to have engineered the coincidence of good weather and good prices with a rather large drop in the value of our currency, meaning that we had a competitive exchange rate that allowed other exporters, and the tourism industry in particular, to join in the good times.
Good economic management is an important part of the picture, however. One of the first things that the new government did was to renegotiate the Policy Targets Agreement with the Governor of the Reserve Bank. It confirmed that the primary objective of the Bank was to control inflation, and that was good for confidence. But it also required the Bank to be more sensitive to the impacts of its monetary management on output in the real economy in the immediate term. I think that the Bank would argue that it had taken a tough line in the early stages of the new monetary regime in order to make it clear that it meant business and to discipline expectations. As price setters adjusted behaviour around an expectation of low inflation, it could take a more pragmatic stance. The application of monetary policy had evolved to where the new PTA placed it.
For all of that, formally writing in the new practice did reinforce the bank’s duty to have regard to the effects of monetary policy on the exchange rate, interest rates and output volatility when setting the Official Cash Rate; that is to keep inflation within the target range, but to seek to smooth monetary policy changes where feasible and to recognise that there will be brief periods where headline inflation moves outside the band for good reason. The basic framework - a focus on price stability and the independence of the Governor in making decisions on monetary settings - remained unchanged.
We also commissioned a review of monetary policy and practice, and that has fine-tuned structures and informed practices. We are tending to adopt a medium term focus for the inflation target rather than the point to point target that might have contributed to some of the volatility of the mid 1990s.
Fiscal settings have supported monetary policy. This government has raised the extra money required to cover its extra spending on social and economic development programmes. And it has introduced a scheme to partially pre-fund tax-funded pensions, so that when our demographic structure acquires the inevitable older age profile, there is a cushion to assist in the transition.
This Superannuation Fund will also have three important macroeconomic effects. It will discipline short-term fiscal policy at a time when a favourable demographic structure might otherwise have tempted governments into tax or spending plans that would be impossible to sustain but painful to reverse. It will increase the level of national savings. And finally, it is likely to deepen capital markets.
The government has also moved away from a passive role in the economy. The late 80s and 90s was the era of the “neutral referee” model of intervention. It was preferable to the crude attempts to rig economic results that preceded it; but as a neutral referee government increasingly found itself presiding over a series of tepid nil-all draws. This government is developing an “active promoter” approach, characterised by smarter activism. To continue the sporting analogy, what will ultimately fill the stands is fitter players, systems for developing young talent, good teamwork, clever strategy and better promotion.
I could cite from a growing list of examples of this “smart, active” style: initiatives in dealing with skill shortages, upgrading the regulatory environment that applies to the electricity and telecommunications sectors, supporting the development of e-commerce, improving the funding of research and development, and simplifying the tax treatment of private sector R&D.
The government’s method is pragmatic and case-by-case, as evidenced by the consolidation of the dairy industry on the one hand, and the deregulation of the apple industry on the other. Each was a considered response to the global marketplace.
I want to focus for a moment on our most recent initiative on Growing an Innovative New Zealand, as set out in the GAINZ report. It sets out a comprehensive programme aimed at lifting our game, and raising our sustainable growth rate through innovation.
GAINZ is different in two crucial respects. Unlike, say, a Singapore, it does not place the emphasis on economic results, leaving social dividends to flow at a future undefined time when they can be afforded. GAINZ lays out a pathway where social development and environmental protection not only rank alongside economic growth, but where they actually become agents of that growth.
Secondly, GAINZ blends what I would call the vertical and horizontal dimensions of innovation. The vertical dimension is about addressing missing or weak links in the “chain” of innovation. Hence we improve our scientific and product development capacity. We nurture ideas through appropriate support systems, so that the full range of business disciplines - legal, accounting, financial, logistical and so on - are brought together to convert good ideas into profitable enterprises.
Science, skill, business, finance and trade are connected, and New Zealand is connected with the outside world. Connectivity is a core concept behind the vertical dimension of the GAINZ strategy.
However, it is the horizontal level of innovation that needs more emphasis. We recognise that there are advantages of environment and national aptitude and attitude that need special attention if we are to deepen our business activity. There is no point in a focus on an area of advantage unless it is also an area where the potential of the global market coincides with the potential of New Zealand to sell into it.
We have identified three areas where there is a good fit: biotechnology, information and communications technology, and creative industries. It is important to stress that we are not trying to pick individual industries as winners. Instead, innovative advances in these areas have the potential to complement each other and to thicken value added in a number of industries that use or could use these technologies. In other words, they are sectoral competencies that have multi-industry applications. Where vertical innovation clears the path for young plants to grow, horizontal innovation creates “hybrid vigour” by applying new technologies and ways of thinking across both old and new industries.
The GAINZ report is a “what” document. A lot of the “how” is already being rolled out or is in an advanced stage of development; but more of the how will unfold as work that has been commissioned by the government is completed. It goes without saying that the GAINZ strategy envisions a continuation, indeed an enhancement, of foreign direct investment into the New Zealand economy. We continue to welcome investment by Australian companies, in particular in the biotechnology, information and communications technology, and creative industries.
Cooperation between New Zealand and Australian on science and innovation is a growing element in the trans-Tasman agenda. Our scientists and companies have been collaborating one way or another for years, but recently both governments have taken a closer look at the policy frameworks we need to maximise our strengths in science and innovation in terms of global competitiveness. Bilaterally we are looking at where the impediments to trans-Tasman collaboration may be and how governments can best work together to support the skills and energy in our research and commercial sectors.
I want to conclude by looking briefly at where we are going in the areas of Trans-Tasman business law and taxation. Given the inescapable influence of distance from global markets, New Zealand and Australia have a strong mutual interest in extracting the most from our common market. We have done a lot to open up trade, labour and investment flows, but the potential of our close economic relationship is often frustrated by the lack of cohesion between our commercial laws and practices and our tax laws.
In August 2000 our two countries signed a memorandum and understanding aimed at better coordination of business law. While recognising that a single approach will not necessarily work for every area of business law in both countries, this MOU identified eight areas as possible candidates for coordination. These are:
- Cross recognition of companies;
- Disclosure regimes for financial products;
- Cross border insolvency;
- Mutual recognition of share markets;
- Recognition of intellectual property rights;
- Consumer issues;
- Electronic transactions, and
- Competition law.
I think it is fair to say that while a lot of work is going on behind the scenes, in many areas New Zealand is taking unilateral action to make sure its own business law is compatible with Australia’s. Our recent Takeovers Code has many features in common with the Australian code, and Australian law is informing our approach to the control of insider trading .
Other unilateral action such as that taken to reduce business compliance costs does not necessarily involve coordination of laws in both countries, but it should benefit businesses on both sides of the Tasman.
A recent initiative of the Australian government was an invitation to our government to develop proposals for the mutual recognition of securities offerings. I am hopeful that the work now starting will result in reduced compliance costs for cross border securities offerings and give investors in both countries increased investment options.
With the best will in the world, events will not always go smoothly, and we both need to be alert to developments that might impede Trans-Tasman business activity. An example is the Australian Stock Exchange’s proposal to amend its rules for Foreign Exempt Category listings, effectively requiring all New Zealand companies that want to remain listed on the ASX to comply with the full set of ASX rules, rather than - as is currently the case - a limited subset of those rules. Our government has offered to work with the ASX at a technical level to minimise these costs if the rule change proceeds.
From my point of view the important thing is to recognise that there is still significant unrealised potential to be gained from business law coordination. It requires good will, and continued steady work. If I could add a special plea it would be for our two countries to work together so that business law reform proceeds in tandem, rather than each country working to separate legislative agendas.
Turning to taxation, most of you will be aware that yesterday Peter Costello and I released a discussion document on options for resolving the trans-Tasman triangular tax problem. Previous New Zealand and Australian governments have attempted without success to resolve the longstanding issue of how to make imputation credits available to investors in companies that pay tax in both countries. This discussion document is the first real progress that has been made. It sets out a proposed mechanism for relieving the double taxation that can occur in certain trans-Tasman investments. Referred to as "pro rata allocation", it is a method for allocating Australian franking credits and New Zealand imputation credits to dividends of Australian and New Zealand companies who pay tax in both countries. The advantage of this method over other methods described in the discussion document is that it is consistent with both countries' policies on imputation, which is to apportion tax credits on the basis of shareholders' ownership in the company.
The pro rata allocation method is only a proposal at this point. The purpose of the discussion document is to hear from investors and business in both countries whether it could work and to assess the costs and benefits of proceeding with the proposal.
I confess to being an inveterate optimist when it comes to looking at future economic prospects. We can become very sensitised to the risks in the international political, financial and trading environments. And we can easily downplay the positives that are out there, and take for granted our own strengths. Generally speaking, most democracies have well functioning legal, financial and political institutions, and are well placed to respond effectively to shocks, both political and financial. Technology is opening up both new opportunities and methods to deal with old problems. Public finances are generally in a much healthier state than they were twenty years ago.
Down here, both our countries have these qualities in good measure, and both have weathered the global slowdown and the post 11 September storms better than most. This resilience is due in no small measure to the maintenance of CER, which is approaching its 20th anniversary in 2003. It will be interesting to see if some of the disadvantages of location and scale are turned on their heads, and our countries emerge increasingly as a safe but also profitable location for investment, business location, tourism and lifestyle.