New Zealand Economy Report Card

The BNZ publish a report entitled “NZ at a Glance” which summarises the current state of the NZ economy. Here are some of the main points:

GDP – Construction is the main driver of growth over the next couple of years – mainly residential. Net exports is likely to take a hit as import penetration starts to build with as the economy recovers. GDP is forecast to increase to 3.6% in 2014 from 2.9% in 2013.

Unemployment – the current rate is 6.2% and the labour market is tightening with the increase in economic activity. Forecast to fall to 5.2% by March 2015. Tighter labour market will mean higher wage growth but also because of higher inflationary expectations as the economy recovers.

Inflation - quite subdued and the annual rate has been 1% or less over the last four quarters. A strong NZD, weakening commodity prices and low inflation globally are conspiring to offset domestic-demand driven price increases. Low inflation also becomes self-fulfilling to the extent that it moderates inflation expectations and price-setting behaviour elsewhere.

Current Account - The current account deficit appears to be stabilising in
a 4.0% to 5.0% of GDP range. This is thanks largely to a resurgence in the commodity prices of the goods that New Zealand exports. This is a welcome development to the extent that it may appease nervous rating agencies for a year or so.

Overall

The New Zealand economic expansion is gaining in momentum. The rebuild of Christchurch is now building up a head of steam and this is supporting increasingly widespread confidence. Very low interest rates and a booming housing market are playing their part too. Eventually this will necessitate a response from the central bank but while annual inflation remains below 1.0% (and set to stay there for a while) it suggests that any such response might be some time in coming. Meanwhile, the NZD remains supported by money printing elsewhere and the relative strength of the economy here.

New Zealand Merchandise Exports – Milk products the driver.

In the year ended March 2013, New Zealand’s merchandise exports totalled $46,182 million. The breakdown is as follows:

Australia $9,738 million
China $7,414 million
USA $4,338 million
Japan $3,143 million

Exports to the top ten destination countries accounted for approximately two-thirds of New Zealand’s merchandise exports by value. See chart below for percentages. With regard to the composition of exports the breakdown is as follows:

Milk power, butter and cheese products are $11,434 million
Meat and edible offal $5,287 million
Logs, wood, and wood articles $3,274 million
Crude oil $1,767 million

The top ten export commodities accounted for 64 percent of export value in the March 2013 year. With regard what destination it was sent from we can see the following:

34% of are sent from the Port of Tauranga
11% exported from the Ports of Auckland and Lyttleton Port
10% exported from Auckland International Airport

If only the Greeks could be like the Dutch at growing tomatoes.

Time magazine ran an interesting article on the tomato market in the Holland and Greece. The Greeks produces twice as many tomatoes than the Dutch but very little of it is sold in export markets. This is a concern in that it is a missed opportunity for the Greeks to earn income. What is more ironic is the fact that in the summer imports of tomatoes come in from Holland because the Greek farmers are still struggling to grow a crop during the hottest time of the year – Holland employs high-tech green houses and is able to produce significantly more during the summer months than Greece.

However, Greece has the potential to produce tomatoes for domestic consumption as well as for export but only has two harvests a year and is at the mercy of the elements – poor weather = poor harvest. The Dutch in contrast have temperature controlled greenhouses helping to create ideal growing conditions and they can produce 70kg of tomatoes in a square metre of his greenhouse whilst the Mediterranean grower gets approximately 7kg. They can also produce all year round.

Single Currency and Productivity

With the introduction of the euro in 2002 Greece could no longer devalue its currency to control the price of its products. With a weaker currency their exports were much more competitive but this had the effect of making the Dutch work even harder to achieve more efficiency and greater economies of scale. Therefore the only way that the Greeks can now compete is by cutting costs and embracing technology.

But it is not just the tomato market that has been hard hit. Greece’s agricultural sector’s productivity levels are 44% below the European average and labour costs have increased by approximately 90% and this is in contrast to Germany where unions agreed to a 3% rise. What is more concerning is that the acreage given over to growing tomatoes in Greece is 10 times that in Holland but they hardly export any of them. The Dutch have seen their exports increase by 30% since 2005. Some economists have laid the blame on the oligopoly market structure that controls the distribution. These middlemen pay farmers low prices and take a big mark-up on tomatoes even as they have failed to put in place a more efficient distribution system, including for exports.

The Greeks could become a thriving exporter of tomatoes once again but will need to embrace the Dutch technology and make use of its natural conditions – sunshine.

Trade Flows: South-South greater than South-North

Recent figures have shown that the trade from developing country to developing country (South-South) has now exceeded developing country to developed country (South-North) – see chart from The Economist. The World Bank reported that in 2002 developing countries bought only 40% of total developing country exports with the remainder going to developed nations. According to the World Bank this figure is over 50% today but is not surprising when you consider the following:

- Developing countries have been growing at fast rates
- Between 1991 – 2011 developing countries share of world trade doubled from 16%-32%
- Developing countries have also been major borrowers
- Developing countries have had major foreign investment especially BRIC countries
- As developed nations struggle in the aftermath of the GFC developing countries have taken over more of their export markets.

But there is still a lot of interdependence – developed countries are of great importance to developing nations. The Euro crisis has had an effect on trade to and from developing countries and although trade between developed countries has increased it has been that with developing countries that has grown considerably greater.

The World’s Major Producing Nations – 2010

The World Bank produces every year two measure of world production:

Gross ‘World’ Product – total GNP of each country
Gross ‘World’ National Income – this is GDP plus net remittances from abraod. That is money which is earned abroad and sent back to family members minus remittances sent out of the country. In some developing countries this can amount to some 10% of GDP.

The actual figures:

Gross ‘World’ Product – US$63,242bn – 2010
Gross ‘World’ National Income – US$76,296 – 2010

PPP = Purchasing Power Parity which focuses on establishing a value of the goods and services that can be purchased using one unit of each currency.

Sone interesting things to note from the table:

- 48% of world output occured in just 5 nations
- Of those 5 nations they have 44.7% of the world’s population
- In 2010 China, India, Brazil, Turkey and Indonesia all increased their percentage contribution to global production.
- Italy and the UK experienced the greatest fall in (0.2%) in their contribution to global output.
- Although China is approaching the USA with regard to global output but is lagging when you consider GDP/Person

Regional Break-up of global GDP from the above table

Asia and Oceania – 30.9%
North and Central America – 23%
Europe – 21.4%
South America – 3.6%
Africa – 0%

Source: Updated Economics 2013 Edition

New Zealand’s White Gold

Fonterra got a mention in the Business section of The Economist recently. Some significant facts about the Dairy industry in New Zealand and the co-operative Fonterra:

* Dairy produces 25% of export revenue in NZ
* It makes up 33% of the world dairy industry
* Fonterra makes up 90% of the dairy industry in NZ
* Fonterra’s annual revenue = NZ$20 billion
* Fonterra opeates in 100 countries and has 10,500 farmer owners.
* 20% of New Zealand Dairy products go to China

Recently Fonterra had made it clear that it is prepared to let non-farmer investors buy in for the first time – they intend to raise NZ$500m with the issue. Why are they looking to non-farmer investor? Although they have made shrewd investments in Asia and Latin America, in more developed markets health worries and higher prices have cut demand. Countries like China are a threat to the Fonterra’s standing on world markets. Furthermore with milk prices down 20% from last year farmers are concerned that non-farming ownership will cut their return further and that there will be a move away from a farmer-owned co-operative.

Trade sees demise of American Middle Class

Here is a recent clip from Paul Solman of PBS which looks at free trade being the cause of the demise of America’s middle class. A new book entitled “The Betrayal of the American Dream,” by investigative reporters Donald Barlett and James Steele suggest that as manufacturing jobs went to developing countries overseas the middle class in America has seen their standard of living drop. As Donald Bartlett states –

The real bottom-line question is, what kind of a society do we want? Do we want a society built on the principle that the only thing that matters is the lowest possible price or a society built on the principle that everyone should have a living wage?

And those are going to be two very different societies. And this goes back again so what we’re talking about. The people up here, they don’t want everyone to have a living wage.

In order to protect Americans jobs the government needs to get tougher on free trade and impose some barriers to trade like quotas and tariffs.

AS & A2 – Global and New Zealand Update for November exams

It is important that you are aware of current issues to do with the New Zealand and the World Economy. Examiners always like students to relate current issues to the economic theory as it gives a good impression of being well read in the subject. Only use these indicators if it is applicable to the question.

Indicators that you might want to mention are as follows:

The New Zealand Economy
The New Zealand economy expanded by 0.6 percent in the June 2012 quarter, while economic growth in the March quarter was revised down slightly to one percent. Favourable weather conditions leading to an increase in milk production was a significant driver of economic growth over the June quarter. The current account deficit rose to $10,087 million in the year ended June 2012, equivalent to 4.9 percent of GDP. Higher profits by foreign-owned New Zealand-operated banks and higher international fuel prices were factors behind the increase in the deficit during the year. Unemployment is currently at 6.8% but is expected to fall below 6% with the predicted increase in GDP. Annual inflation is approaching its trough. It is of the opinion that it will head towards the top end of the Reserve Bank’s target band (3%) by late next year.

The Global Economy
After the Global Financial Crisis (GFC) the debt-burdened economies are still struggling to reduce household debt to pre-crisis levels and monetary and fiscal policies have failed to overcome “liquidity traps”. Rising budget deficits and government debt levels have become more unsustainable. The US have employed the third round of quantitative easing and are buying US$40bn of mortgage backed securities each month as well as indicating that interest rates will remain at near zero levels until 2015. Meanwhile in the eurozone governments have implemented policies of austerity and are taking money out of the circular flow. However in the emerging economies there has been increasing inflation arising from capacity constraints as well as excess credit creation. Overall the deleveraging process can take years as the excesses of the previous credit booms are unwound. The price to be paid is a period of sub-trend economic growth which in Japan’s case ends up in lost decades of growth and diminished productive potential. The main economies are essentially pursuing their own policies especially as the election cycle demands a more domestic focus for government policy – voter concerns are low incomes and rising unemployment. Next month see the US elections and the changing of the guard in China. In early 2013 there is elections in Germany. The International Monetary Fund released their World Economic Outlook in which they downgraded their formal growth outlook. They also described the risk of a global recession as “alarmingly high”.

AS Revision – Tariffs and Protectionism

Here is another worthwhile video from Phil Holden. This time he is talking about Tariffs and Protectionism which is in Unit 4 of the AS course. However you will be expected to know this at A2 level also. Remember the following reasons for barriers to trade:

Why Protectionism?
a) Safeguard home country employment
b) Correct balance of payments disequilibria
c) Prevent labour exploitation in developing countries (or other political – not economic – goals)
d) Prevent Dumping
e) Safeguard infant industries

New Zealand agricultural sector – lowest subsidies amongst OECD

Having just taught the Developing Economies topic at the UNITEC A2 revision course I couldn’t help noticing this graph that was in The Economist last week. This was extremely useful when you look at how developing nations are locked out of the trading system by the subsidies given to those developed nations agricultural sectors. For years the World Bank and the IMF have forced developing nations to stop subsidising their agricultural sector.

Government support for agriculture in the mostly rich countries of the OECD amounted to $252 billion in 2011, or 19% of total farm receipts. Although there is a move away from support linked directly to production, it is still about half of the total. The general trend is downwards: compared with the second half of the 1990s subsidies fell in all countries. But levels of support vary widely. In Norway, Switzerland and Japan, more than half of gross farm receipts in 2009-11 came from support policies; for producers in Australia, Chile and New Zealand, it was less than 5%. Commodity prices will stay high for some time, suggests the OECD, so markets will provide the farm income that many governments have tried to prop up.

Reserve Bank of Australia likely to ease cash rate

With continued global weakness the RBA is becoming increasingly worried about the prospects for the Australian economy. According to the National Bank of Australia there are 3 factors that the RBA are concerned with:

1. Although house prices are stabilising there are some sectors of the economy that remain in a depressed state – residential construction has a record low capacity utilisation (see graph).
2. A tightening of state and federal fiscal policy has meant that there is less aggregate demand in the economy.
3. The high value of the AUS$ affects the competitiveness of exports. However business now see the high AUS$ as permanent rather than cyclical. This is important as the RBA is not expecting lower rates to significantly lower the AUS$ but rather is trying to offset some of the economic damage to the economy.

It could be that a rate cut by the RBA is an insurance policy in an environment where inflation appears stable. The graph below looks at the RBA Cash Rate and the Taylor Rule.

The Taylor Rule

This is a specific policy rule for fixing interest rates proposed by the Stanford University economist John Taylor. Taylor argued that when:

Real Gross Domestic Product (GDP) = Potential Gross Domestic Product and
Inflation = its target rate of 2%,

then the Federal Funds Rate (FFR) should be 4% (that is a 2% real interest rate).

If the real GDP rises 1% above potential GDP, then the FFR should be raised by 0.5%.
If inflation rises 1% above its target rate of 2%, then the FFR should be raised by 0.5%.

This rule has been suggested as one that could be adopted by other central banks – ECB, Bank of England, etc for setting official cash rates. However, the rule does embody an arbitrary 2% inflation target rather than, say 3% or 4%, and it may need to be amended to embody alternative inflation targets at different times or by different central banks. The advantages of having such as explicit interest rate rule is that its very transparency can create better conditions for business decisions and can help shape business people’s and consumers’ expectations. Central banks prefer to maintain an air of intelligent discretion over the conduct of their policies than to follow rules, but to some extent they do unwittingly follow a Taylor rule. This makes the rule a useful benchmark against which actual policies can be judged.

NZ rural sector holds its own

The New Zealand Herald last Saturday had a useful article on the importance of the rural sector to the growth of the economy. Brian Gaynor talked of the confidence of the rural environment compared to that of their urban counterparts who are struggling in a very competitive environment. New Zealand’s exports have increased from $7.9bn in 1983 to $46.7 bn today whilst the contribution of meat, dairy and wool have decreased from 53.8% to 37.5%. Although this gives the impression that the rural economy is not holding its own one has to remember that:

Meat, dairy and wool’s contribution has increased from 34.5% to 37.5% during the last 10 years.
If logs, oil, fruit, wine, fish, casein and Tiwai Point’s aluminium are added then exports from the non-urban sector accounts for around 60% of total exports.

The rural sector has a trade surplus with the rest of the world but the urban sector runs a substantial deficit. The increase is residential house prices has been 8 fold but the problem here is that in borrowing to buy a house they are accessing overseas banks. This means that we need to export more and more rural products just to pay the interest on these overseas loans.

Floating Exchange Effect on China

Here is a presentation by the Khan Academy on the effect of floating the Yuan. Very good if you are doing exchange rates in the AS or A2 course.

Increasing importance of China to New Zealand trade

Since January 2010 there has been a significant increase in the importance of China to New Zealand’s trade balance. 13% of NZ’s exports are now estined for the Chinese market (see graph) and it is estimated that by 2020 it will overtake Australia as our number one destination. According to the BNZ New Zealand’s annual exports to China are already 25% larger than that to the EU, almost 50% more than that to the US, and more than 4 times the value of exports to the UK.

The June trade figures were higher than expected when you think of the global issues especially in Europe and the US and the strength of the NZ$. However I suppose we really export water in that grass growth and agricultural produce determines our trade balance.

WTO worried about protectionist measures

Having finished the trade topic in the AS course I was interested to read that although global trade is on the increase the World Trade Organisation (WTO) are still concerned about the level of protectionism that countries seem to implementing. When the Global Finaincial Crisis (GFC) started to impact on global growth the G20 countries, which account for 85% of global GDP, were determined not to replicate the protectionist measures of the 1930’s when the world economy went through a depressionary phase. China and India are steaming along and China accounts for 20% of India’s trade deficit – in the last year India has a trade deficit with China of US$40bn. According to the Economist for US$1 worth of exports to China, India imports US$3. What is also significant about world trade is that later this Russia joins the WTO and it is assumed that foreign direct investment in Russia will increase significantly. HSBC have suggested that the value of global trade will increase by 90% over the next 15 years.

However the WTO are not so sure of the growth in global trade. They believe that protectionist measures are a real threat to the free movement of goods and services. The barriers include higher tariffs and import and custom controls but more significant is the less obvious barrier which is excessive regulation/red tape. The graph below shows that China is the country targeted by the most governments for protectionist measures. Fifty-five countries have passed measures that hurt Chinese exports. That is followed by the U.S., with 49 measures against it; and Japan, with 46. Source WSJ.

Global Trade: Free Trade and Protectionsim

Here is a clip on Free Trade and Protectionism. Although quite long it is very good as an introduction to the Trade topic – Unit 4 of the Cambridge International AS course.

Societies have traded for thousands of years. However, the last 35 years have seen an explosion in world trade. How has this global integration affected the world’s economy and individual markets and how are the overall gains of world trade distributed?

Are oil exporters the reason behind the global imbalance?

The Economist ran an article that focused on the global imbalance in the world economy. We have been accustomed to hearing about the USA being great spenders and running large deficits and the Chinese being big savers and running large surpluses. However those that have been running even bigger surpluses are the oil exporting countries which have enjoyed a huge windfall from high oil prices – according to the IMF $740bn of which 60% will come from the Middle East. This compares to China’s suprlus of $180bn.

The Economist stated that only a fraction of this oil surplus has gone into official reserves and therefore hasn’t attracted much attention. A lot the money has been put into equities, hedge funds etc through intermediaries in London. The affect of higher oil revenues on the world economy depends on whether the money earned is then spent on buying goods and services from oil importing countries – this maintains demand and the velocity of the circulation of money in the circular flow. In the oil crisis years of 1973 (400% increase) and 1979 (200% increase) 70% of the revenue earned by oil exporting countries was injected back into the circular flow on purchasing goods and services. The IMF estimates that less than 50% will be spent in the three years to 2012. For each dollar spent on oil from OPEC countries in 2011 there was the following spent on the exports from that country:

USA – 34 cents came back into the economy
EU – 80 cents came back into the economy
China – 64 cents came back into the economy

Normally a large current account surplus would be eroded over time by a stronger domestic spending and a higher exchange rate. However the Gulf currencies are pegged or closely linked, to the US$. The best way to reduce the current account surplus of the oil exporting countries is to increase public spending and investment which might reduce dependence on oil revenues and therefore less likely to become part of the resource curse.

Why do car firms in Argentina sell wine?

The rise of China as a producer of just about anything has had a detrimental impact on the industry of many developed nations. Brazil and Argentina are particularly concerned about cheap imports from China impacting on their main export market – North and South America.

Brazil and Argentina are worried about deindustrialisation and have resorted to protectionism – trade barriers/import restrictions. This protectionist policy means that the consumers are the ones that suffer from the higher prices. Argentine officials now require importers to match the value of their orders with exports which had led some car importers to sell wine. This is a particular worry for South American countries as history tells us that for large countries to become developed there needs to be a strong industrial sector. For Brazil the problems are:

- the high domestic interest rates – 9.75% – which make the currency uncompetitive for exports
- a high tax level
- poor infrastructure

Brazil and Argentina had the chance to turn the NATFA (North America Free Trade Agreement) into a 34 country Free-Trade Area of the Americas but they turned it down. If they are to succeed they will need to embrace the global economy and maybe revisit potential trade agreements.

Turkish Delight – not so sweet!

There is no doubt that Turkey has grown considerably over the last decade – in 2011 the economy grew by 8.5%. However, like other countries, this growth does have its side effects when you delve deeper. The main concerns are as follows:

1. With this growth comes pressure on prices – inflation was 10.4% in March this year which is well above the target by the Central Bank
2. In order to create the demand in its economy Turkey has put a growing reliance on foreign capital and hot money which has not been generated in Turkey itself.
3. Furthermore the capital itself seems to be quite fickle and doesn’t lend itself to major industrial developments.
4. As with most growing economies the reliance on overseas goods becomes very pronounced. Turkey’s trade deficit in 2011 was 10% of GDP

As long as the global economy is bouyant there are significant funds (hot money) which find there way into emerging economies like Turkey. However, once the clouds appear on the horizon hot money tends to depart which forces the Turkish Lira down and domestic consumption to fall. Turkish interest rates (approx 6%) have attracted hot money but the real problem here is that there is a significant shortage of domestic saving. Furthermore businesses don’t want to grow in size as there are a myriad of regulations and therefore are less efficient than if they were larger and able to achieve economies of scale.

To be more stable over the next few years the Turkish economy needs to reduce its current account deficit (see graph below) and its reliance on capital inflows. Persistent deficits will mean serious problems when money flees the economy.

IMF reduces forecast for China’s trade surplus

The IMF have recently stated that they are going to reduce China’s long-term forecast for its current account from a surplus from 7% of GDP to 5% of GDP – to be published in the IMF’s magazine entitled – “The World Economic Outlook (WEO)”. This might be useful if you are going to indicate that your currency is actually undervlued.

From the Wall Street Journal

Since at least 2009, the IMF has been describing China’s currency as “substantially undervalued”—and before that it sought to use the term “fundamentally misaligned,” though Beijing blocked that designation. China’s government intervenes in the market to keep the currency from rising and thus endangering China’s exports. The higher the exchange rate, the more costly a country’s exports to foreign customers.

Since 2008, the IMF has consistently overestimated how large China’s current-account surplus would remain. IMF officials say that’s because the fund overestimated how quickly U.S., Europe and Japan would recover from the global financial crisis of 2008 and 2009 and underestimated how much China’s economy would change so it relied less on exports.

In 2007, China’s current-account surplus as a share of GDP peaked at 10.1%. In 2008, the IMF forecast it would stay close to 10% in the years ahead. That formed the basis of the argument that the yuan was “substantially undervalued” and years of diplomatic pressure on China to allow more rapid appreciation. In fact, China’s current-account surplus in 2011 came in at just 2.8% of GDP.

This change to the IMF’s estimate will assist China in convincing its critics that it need not let the currency fall much further.