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27 Jun 2014

New Zealand’s rock-star economy

Paul Bloxham

by Paul Bloxham

Chief Economist, Australia and New Zealand, HSBC

New Zealand’s ‘rock-star’ economy

The New Zealand government has invested significantly in rebuilding Christchurch, pictured, after the 2011 earthquake

New Zealand is booming. Its GDP, up 1 per cent in the first quarter of 2014 to give an annual increase of 3.8 per cent, is outperforming almost all other economies in the Organisation for Economic Co-operation and Development. In response, the central bank has been the first in the developed world to lift interest rates this cycle and the high New Zealand dollar is helping contain inflation.

But more needs to be done to safeguard sustained economic growth. Weaning New Zealand off cheap credit is commendable, but steps should also be taken to ensure its rock-star economy does not become a one-hit wonder.

Weaning New Zealand off cheap credit is commendable, but steps should also be taken to ensure its rock-star economy does not become a one-hit wonder

Four key factors are supporting the economy. Rebuilding the Canterbury region after the 2011 earthquake involves spending around 20 per cent of GDP – a far larger share of the economy than Japan’s rebuild after the Fukushima disaster. Indeed, construction has been the main driver of growth this year.

Dairy and meat exports have risen to meet strong Chinese demand while sustained low interest rates have supported increasing housing prices and a pick-up in retail sales. All these factors have encouraged more immigration into New Zealand and less migration, which supports growth.

The Reserve Bank of New Zealand has hiked interest rates this year as part of its plan to raise rates by a full 2 percentage points to 4.5 per cent before 2016, making it perhaps the only developed world economy to return rates back to neutral over that period.

It’s not surprising that the New Zealand dollar is around historical highs therefore, but the central bank insists it expects the currency to fall from here, even though a strong exchange rate is doing the bank’s work in keeping inflation under control.

The May 2014 budget projected a small surplus for next financial year, with net debt continuing to fall. But arguably, the fiscal authorities could do more. How New Zealand can sustain its current economic performance and insure against future negative shocks, such as a downturn in China, ought to be key issues in September’s election.

Not all of the factors driving the economy will permanently lift growth. The Canterbury rebuild is only temporary even if it runs for another year or two. Migration flows are strong only when the economy does well and interest rates are for only managing the cycle: in the long run the price of money does not drive growth.

That leaves dairy and meat exports. We remain optimistic about medium-term demand as Asia’s middle-class incomes rise, but agricultural commodity prices can be very volatile and dairy prices, although still high, have fallen sharply this year.

Lessons can be learned from other countries’ experiences with commodity-price booms. Building up savings in a sovereign wealth fund when commodity prices are high is one approach. Running much larger fiscal surpluses during these periods is another. Or policymakers could consider locking in benefits of high commodity prices by investing in productivity-enhancing reform or infrastructure, to spread the economic benefits of the current boom over time.

This research was first published on 17 and 19 June 2014 .
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