Year: 2015

National savings

Michael Reddell New Zealand economic performance, Savings

The annual national accounts data were released a few weeks ago by Statistics New Zealand. They got little media attention, which isn’t surprising, but I like fossicking in the spreadsheets. Apart from anything else, they provide an annual update on some of the longest official time series data we have. Australia has full national accounts data back to 1959, and the United States provides official data back to 1929, all on current methodologies. By contrast, we have real quarterly data only back to 1987, and annual nominal national accounts data back to 1972.

The (flow) national savings rate has had a lot of focus in the New Zealand debate over the years. Indeed, early in the term of the current government, there was even an official Savings Working Group. A lot of discussion focuses on household savings, but I prefer to focus on national savings (ie the savings of New Zealanders, New Zealand-owned companies, and the New Zealand government). It provides a good basis for international comparisons, and isn’t messed up by the somewhat-artificial boundaries between households, corporates, and governments.

I also prefer to use net savings data rather than gross savings (the difference is the estimate of depreciation, or “consumption of fixed capital”).  Net savings is the real resources added to wealth.  And if I’m using net savings data I need to use net national income data.

As I highlighted a few weeks ago, our national savings rate has been relatively low by the standards of the typical OECD country. And it is really quite low when compared with the net national savings rate in Australia – but it has been for decades, including the period well before Australia introduced compulsory private superannuation savings. On the other hand, our net savings rate has been strikingly similar to median of the other Anglo countries.

This is what the chart looks like, starting in the year to March 1972, and end in the year to March 2015.

net savings to nni nz
Of course, the sharp fall in the series at the start of the period really catches the eye. But the other thing that strikes me is just how stable average the savings rate has been over the subsequent 40 years, fluctuating around 5 per cent. As you’d expect, it falls quite sharply in recession (see 1991 and 2008/09) – corporate profits tend to fall in recessions, and fiscal deficits widen – but since 1975 there has been no trend in the series at all [1] .

Which creates difficulties for those looking for explanations for our relatively modest national savings rate:
• Some reckon tax incentives might help. But actually we had a very generous tax treatment of superannuation and life insurance until the late 1980s, and a rather ungenerous one (defenders would say “neutral”) since. But the difference isn’t visible in the aggregate data.
• Some reckon a liberal approach to New Zealand Superannuation might explain something. But in the years to March 1975 and 1976 we had a compulsory private scheme, then we had very liberal universal NZS at 60, then we had means-testing and a fairly rapid increase in the age of eligibility. None of it is very evident in the data.
• Some talk about “wealth effects” from rising house prices dampening savings. But the biggest house price bust in modern New Zealand history was after 1974, and the biggest boom was over 2003 to 2007. None of it is very evident in the data.
• The (non-superannuation) welfare state has got bigger over the period, while tertiary education went from being largely “free” for a small group of people, to really rather expensive for a huge number of people. None of it is very evident in the data.
• Some reckon financial liberalisation will have dampened savings, enabling people to bring forward consumption in ways they couldn’t previously. The real freeing-up of the system didn’t start until the mid 1980s. But the difference isn’t obvious in the aggregate data.

• Kiwisaver hasn’t been compulsory, but the take up was sufficiently large that if advocates had been told in advance that it would be that high most would have thought it would have boosted national savings rates. But neither in the more formal research nor in a simple chart like this is it particularly evident.

I’m not suggesting none of these factors made any difference. I’m sure in many cases they did, and (for example) the increase in the NZS eligibility age helped put the government in the position of running large surpluses in the years leading up to the 2008 recession (which was also the peak in the national savings rate). But it isn’t easy to point to a single factor, or even an identifiable set of factors, to explain New Zealanders’ savings choices. An alternative way of saying that is that it is not easy to point to what one might change if one were convinced (which I’m not) that the national savings rate is a policy problem. 40 years of a constant mean is really quite a long time.  More-formal modelling might shed some light, but I wouldn’t be optimistic.

Discussions of savings often focus on households, and then secondarily on the government’s own finances. But they tend to ignore the role of business savings. I’ve wondered whether the modest rate of national savings partly reflects the perceived lack of profitable opportunities in New Zealand. As I’ve pointed out before, business investment as a share of GDP has been quite low in New Zealand for decades, and less than one might expect in a country with quite a fast-growing population (Austria or Belgium need to devote a smaller share of their income each year to adding new shops and offices etc than, say, New Zealand or Australia do). Firms might save more if the growth prospects were better – if, say, real interest rates were nearer those in the rest of the world, and if the real exchange rate had been lower. But in that case, savings rate wouldn’t be the cause of any problems, but just another symptom.

It is one of those areas where better data might help shed a little further light. What was going on with that fall in the national savings rate in 1974/75? It looks a lot like the impact of the collapse in the terms of trade.  But the savings rate has never recovered, and we don’t even know if it was exceptionally high in the early 1970s.  Contemporary estimates suggest that business savings were almost half of private savings – from perhaps a third a decade earlier. Unfortunately, the earlier estimates aren’t compiled on the same basis as the modern national accounts. For what it is worth, here is a chart for the full period since 1954/55, using data published in the New Zealand Official Yearbooks (in this case the 1975 one). There is a hint of national savings rates rising in the late 1960s and early 1970s, but it is hard to know, and hard to know whether the average savings rate for the last 40 years is really lower than it was in the earlier post-war decades.

net savings to nni 2
Surely we should be funding Statistics New Zealand – or at a pinch some good academic researcher – to produce longer backdated series of our national accounts. Better data on its own probably wouldn’t answer all our questions about New Zealand’s longer-term economic performance, but it surely couldn’t hurt. Would it provide value to the plumber from Masterton? Hard to tell, but good data at least opens the possibility of better policy.

NB: Before anyone comments, this post is dealing entirely with the flow rates of savings from current income.  It is not dealing, at all, with stock measures of wealth, or how they might aggregate to some sort of national balance sheet.

[1]  In the years of high inflation and high public debt, the story is a little complicated because much of what is recorded as interest is in effect a principal repayment.  Grant Scobie (and co-authors) looked at that effect here.

The wealth of nations, and democracy

Michael Reddell economic geography, New Zealand economic performance

Yesterday I went to a fascinating guest lecture at The Treasury, by Stephen Haber, a professor at Stanford, who is currently visiting New Zealand as the Reserve Bank and Victoria University professorial fellow in monetary and financial economics.  Haber was the co-author of the very stimulating recent book Fragile by Design: The Political Origins of Banking Crises and Scarce Credit, a comparative study of banking systems. I’ve been meaning to blog about this book for months.  To the extent that Calomiris and Haber are correct (and I’m not sure how far that is) the case for intrusive banking supervision and regulatory restrictions – of the sort the Reserve Bank is increasingly adopting  – in countries like New Zealand is materially undermined.

But yesterday’s lecture was on something quite different.  His topic was “Climate, geography, and the origin of political and economic institutions”.  It is continuing work, building on the earlier observation that stable democracies –  of which there have not been many – cluster in regions of moderate rainfall.  In the words of the abstract of a 2012 working paper:

Why are some societies characterized by enduring democracy, while other societies are either persistently autocratic or experiment with democracy but then quickly fall back into autocracy?  I find that there is a systematic, non-linear relationship between rainfall levels and regime types such that such that stable democracies overwhelmingly cluster in a band of moderate rainfall (540 to 1200 mm of precipitation per year), while the world’s most persistent autocracies cluster in arid environments and rain-forests. This relationship is robust to controls for the resource curse, as well as to controls for ethno-linguistic fractionalization, the percent of the population that is Muslim, disease environment, and colonial heritage. I advance a theory to explain this relationship, focusing on differences in the biological and technological characteristics of the crops that can be grown in different precipitation environments. Variance in the biological and technological characteristics of crops generated variance in producers’ strategies to solve problems of scarcity, giving rise to variance in the distribution of human capital and institutions associated with the protection of property rights. Democracy was more likely to thrive in environments in with a high level and broad distribution of human capital, and with institutions that protected property rights. I test the theory against a unique cross-country dataset, a comparison of democracies and autocracies in antiquity, and a series of natural experiments.

The current work takes these ideas further and builds on the work of plenty of other scholars trying to better understand what accounts for the widely divergent, and apparently deeply-rooted differences in outcomes across countries.   Haber’s claim is that climate and geography explain between a third and a half of the variance across countries in GDP per capita and in where countries stand in democracy rankings.  Here geography is not the ideas of remoteness from the rest of the world I was toying with last week, but something more about the ability to grow, store, and transport (and thus trade) food.  Places with flat land and navigable rivers or coastlines score well.  Rocky valleys don’t.

In Haber’s story, certain climates and geographies pre-condition societies to developing market-based institutions and effective but limited governments that eventually lead to greater prosperity, innovation, and democracy.  In his story, for example,  England is a place where grains can be both grown and readily stored, and transported, and where there are few extreme climate shocks that might historically have threatened whole societies. Trade requires effective enforcement of private property rights.

Others places are more naturally favourable to the development of strong central governments, which can discourage innovation.  Haber here cites both Egypt and China, and argues that the propensity to flooding naturally lead to strong central governments as a risk-management device (the biblical story of Joseph, central managing grain reserves, featured as an example of the “insurance state”). Such societies discourage any innovation that might threaten the perceived self-interest of the state.  Others places again  –  think of Pacific islands –  are prone to severe adverse climatic events, but also have climatic/geographic conditions that don’t allow the production of storable foods (eg grains), and so there are no incentives to develop the institutions that protect property rights and the development of markets.  Stealing vast quantities of grain in northern Europe would have been very valuable – it lasts a long time –  but stealing bananas in Fiji would not.

I don’t lay claim to any great expertise in this area, but for what it is worth much of what Haber had to say rang true in understanding some of the differences across some countries –  England vs Egypt/China vs Vanuatu for example.  But then again, it is not so many centuries since China was the richest (per capita) economy in the world.  Plenty of scholars try to explain the subsequent great divergence.

But I was uneasy about two things.  First, democracy is really rather a new thing, at least in its current forms.  Perhaps in a  hundred years from now it will be the established and standard form of governance everywhere, in which case Haber’s work might be useful only in explaining in which countries democracy developed first.  Then again, perhaps democracy will prove to have been a short-lived fragile flower, and the pool of countries with democratic systems could look much smaller than it does today.  After all, 80 years ago many of the countries of Europe were far from democratic, and if anything democracy might have looked to be in reverse.  Who is to say it couldn’t happen again?  Perhaps it just reflects my economics training, but differences in wealth look more persistent that differences in how much democracy there is, and is probably a better focus.  Apparently, Taiwan is less prone to adverse climatic shocks than mainland China, but the contrast –  for now at least –  between a rowdy democracy on one side of the strait, and the Communist Party’s rule on the other side, cautions against too much geographical or climatic determinism.

But closer to home,, I was uneasy was about whether his story –  whether about democracy or prosperity – could usefully explain much about a country like New Zealand (or Australia, Canada, the United States, Uruguay, Chile, Argentina).   By world standards, each of these countries is pretty well-off –  the last three less so than the others.  The first four have been among the world’s most democratic countries, and even the Latin American countries haven’t exactly been China –  Uruguay and Chile had some well-established democracies, with some brief unfortunate interruptions.

The climate and geography of these countries is much the same as it was 200 years ago, or 500 years ago –  ie in Haber’s terms well-suited to the emergence of democracy and prosperity.  And yet I don’t think there is anything in the pre-history of the territories of those modern countries to suggest that the indigenous societies in any of them had the nascent qualities that were about to lead to the emergence of societies that were among the most democratic and prosperous on earth.

Of course, it isn’t that climate is irrelevant. But the channel is different than Haber seems to recognise.   British settlers were willing to settle en masse in New Zealand or Canada because the climate and geography were conducive (by contrast, when British missionaries went to west Africa in the 19th century it was not uncommon for them to take coffins with them, so high was the mortality rate).  But what would modern day New Zealand or the United States look like if, for some reason, there had been no international migration?  Haber’s hypothesis seems to suggest that they should have been rich and free.  I rather doubt it.  Unfortunately, there are no natural experiments –  countries with good geography and climate that remained largely unsettled by Europeans.  Perhaps South Africa is the nearest example, and I wouldn’t have thought it was particularly supportive of Haber’s case.

There were opportunities in New Zealand, Australia, Canada and the United States which people from rich and successful countries (mostly the UK, but not exclusively – see Quebec, or the Spanish influence in the US) forcefully took advantage of.  The riches and success provided Britain with the military and political strength to enable new societies to “invade” and largely replace the cultures and institutions that had been in those societies previously, but which had not developed technologies that enabled them either to flourish, or to fend off the influx from Europe.  There probably wasn’t too much unique about Britain –  had the Napoleonic Wars gone the other way, more of the colonies of settlement might have been French rather than British –  but the influxes at the time when lowering transport costs made mass seaborne migration feasible were inevitably Northern European. It isn’t a particularly attractive picture, but that is what it was –  those who had developed wealth and power (and the associated successful institutions) displaced those who had not utilised the potential of those climatically and geographically favoured lands themselves.

I’ve been attracted to work of Bill Easterly in this field, who has asked “Was the wealth of nations determined in 1000 BC?” He found that differences in technology levels across countries were remarkably persistent over time, even going back as far as 1000 BC (although his focus was on differences in 1500AD).  But as his work developed, he took explicit account of the role that large scale immigration played in transplanting technology and institutions from one geographical location to another.  People make a difference.

Here is his scatter plot of the relationship between the technology levels in each country and current GDP per capita.  New Zealand, Australia, Canada and the US are in the top left hand corner: poor technology in 1500, but high incomes now.

easterly1

And here is the follow-up chart, incorporating the technologies in 1500 of the peoples who now live in those countries.  Mass migration wasn’t an issue for most countries, but it certainly was for New Zealand, Australia, Canada and the United States.  If you look carefully, you’ll spot a NZL towards the top right hand corner of the chart  (the other colonies of settlement are buried in that cluster too).

easterly

I’ve often been critical of the Reserve Bank and even The Treasury on this blog. But credit should go to them for hosting a fascinating visitor such as Haber, and to The Treasury for yesterday’s open seminar.

Nominal GDP targets for New Zealand?

Michael Reddell Monetary policy

I urged again the other day that there should be an open process of research and debate leading towards the negotiation of the next Policy Targets Agreement in 2017.  These documents matter.  Monetary policy is the main tool for short-term macroeconomic stabilisation, so the PTA sets the “rule” (well, loose guide) for how the short-term fluctuations in the economy will be managed.  The Reserve Bank –  and the Treasury and Minister –  has often had a tendency to treat deliberations around the PTA as technocratic in nature (which in some ways they are), and hence not something with which to trouble the natives.  The standard Reserve Bank response to any suggestion of greater openness was “but we already tell them what we want them to know”.  But open government is not just about releasing finished products, after the event, in bureaucratically-approved formats.

Two other former Reserve Bank staff, Kirdan Lees and Christina Leung, both now at NZIER, have made a useful contribution to a debate about the future of New Zealand’s monetary policy.  They put out a note the other day headed Time to reassess inflation targeting, which concludes with a pretty strong leaning towards adopting nominal income targeting instead.  I don’t think they will get far with the current Governor on that one – he used to bristle and react very frostily whenever anyone so much as mentioned nominal income targeting  – but he won’t be Governor for ever, in the end the Minister of Finance calls the shots, and whether the Governor likes debate or not, it is an important part of good public policy processes.

However, I’m not convinced by the Lees/Leung argument.  In particular, I’m not persuaded that the form of the rule makes a great deal of difference to assessing the appropriate stance of monetary policy now.  Nor am I convinced it would have made a great deal of practical difference over the pre-recession years.  And if we were going to move away from inflation targeting, I’m not convinced that nominal income targeting is the alternative I would adopt.

Lees/Leung have a number of strands to their argument.

First, they argue that “supply shocks” have become more important relative to “demand shocks”.  Perhaps, but where is the evidence for that proposition in New Zealand or in other countries?  They seem, in part, to be arguing from the presence of a number of phenomena (fracking, the internet etc) which are improving productivity.  All of them are real, but in aggregate productivity growth has been materially slower in the last half dozen or so years than in the previous decade.  And, in any case, the issue for monetary policy would not normally be the trend rate of productivity growth, but shocks –  surprises, which can go either way.   There is, of course, one area where supply shocks have become more important for New Zealand –  terms of trade volatility has been much greater in the last decade than in the previous 15-20 years (apparently driven mostly by the fairly extreme dairy price volatility).  We’ll come back to terms of trade shocks.

Second, they point out that many advanced countries have seen inflation undershoot respective targets.  That is, of course, true, but most of the countries on their chart have largely exhausted the potential of conventional monetary policy.  Interest rates are basically at zero, and have typically been so for quite a few years.  There are reasonable arguments that a different target might make it a little easier to get out of the current “trap”, but they aren’t relevant to New Zealand at present.  Our Reserve Bank has undershot the inflation target not because it couldn’t cut interest rates enough, but because it chose not to.  That failure probably wasn’t wilful –  largely it was because they misread the data.  They (and other central banks) misread the data on the other side during the boom years.  Forecasting is difficult, but it is a problem that bedevils any of the rules under discussion.

Third, they point out the well-known proposition that, in principle, nominal GDP targeting can generate better short-term macroeconomic performance (eg less output variability) in the presence of supply shocks.  In the example they cite, faced with drought, an inflation targeting central bank will tend not to adjust policy (since inflation, and especially core inflation, won’t change much) while a nominal GDP targeting central bank will tend to ease policy to lean against the drought-induced fall in GDP.  But, in fact, whichever rule was adopted, the central bank would almost certainly be reacting to forecasts (whether of inflation or nominal GDP), since monetary policy only works with a lag.  Droughts typically aren’t recognised by central banks until we are in the midst of them, and when they are recognised they are typically assumed to be shortlived.  Faced with the prospect of a drought this summer, the Reserve Bank will typically (and reasonably) assume that next summer will be normal, and since monetary works with a lag they wouldn’t change policy under either regime.

Fourth, they argue that the difference between inflation targeting and nominal GDP targeting is quite material for where the OCR should be set right now.    It is certainly feasible that in some circumstances there could be quite a difference, but they don’t make a persuasive case that this is one of those times.

They compare inflation rate targeting with nominal GDP level targeting.    Either prices or nominal GDP can be targeted in rate of change terms (inflation rates) or in levels terms.  No country in modern times has adopted levels targets for either prices or nominal GDP.  The Bank of Canada looked quite carefully at the option of price level targeting a few years ago, and concluded that it would not represent an improvement over inflation targeting.  One reason levels target don’t appeal to practical policymakers is that if one makes a mistake and prices or nominal GDP rise unexpectedly strongly, one can’t just treat bygones as bygones –  one has to tighten to drive the level of prices (or nominal income) back down again.    Whatever the theoretical appeal of such an approach, it seems unlikely to command much public enthusiasm or support –  and hence seems unlikely to prove durable.

Much of the older literature around nominal GDP targeting was done in terms of rates of change (nominal GDP growth rates).  But since the 2008/09 recession there has been renewed interest in the idea of a level target for nominal GDP.  The argument made, most prominently by US economist Scott Sumner, has been that a target for the level of nominal GDP would have (a) prompted an earlier easing in monetary policy, and (b) would underpin expectations (especially in the US and Europe) that interest rates would stay low for a long time.

Lees/Leung acknowledge that the current inflation targeting framework invites further cuts in the OCR  (we’ll see next week whether the Governor agrees, although recall that it is a forecast-based framework, so OCR cuts aren’t warranted if the Bank can convincingly show that core inflation is heading back to 2 per cent reasonably soon on current policy).  But then they suggest that using nominal GDP levels targeting “interest rates are about right”.

They appear to base that observation on this “illustrative example”.

ngdp

In this chart, they appear to have simply drawn a trend line through actual nominal GDP since 1998 and then calculated the difference between the trend line and actual. That difference is small.

But to adopt a nominal GDP levels target, one would need to define an appropriate trend period first.  And it isn’t clear to me why this is the right one.  Most advocates of nominal income targeting at present argue for using something like the pre-recession trend (since the arguments are about whether policy has been sufficiently loose in the year since 2008).  In a New Zealand context, in both 1996 and 2002 policymakers decided that New Zealand should have a faster trend rate of nominal GDP growth (since they revised up the inflation target).  Alternatively, a common approach in New Zealand has been to look at the entire period since low inflation (and lowish nominal income growth) was established, around 1992.

I’m not sure that a trend starting from 2002 to, say, 2008, is that enlightening.  After all, there was a common view that monetary policy was too loose over at least several years of that period (Alan Bollard has openly acknowledged as much).  But if we used that as the trend, this is what the picture looks like (using logged data).

ngdp 02 to 08 trend

Nominal GDP is well below that pre-recession trend (as it is in most countries), arguing for looser monetary policy now as well.

Or we could use a trend done over 1992 to 2008 and one ends with a similar gap.

ngdp 92 to 08 trend

Levels targeting does require identifying a starting level (which is neither easy nor uncontentious).  But what if we just look at nominal GDP growth rates?

ngdp apcs since 92

Not only has nominal GDP growth averaged far lower since 2008 than it did over the previous 17 years, but the most recent observation (annual growth of 3.9 per cent) is right on the average for the post-2008 period.    If we are happy with something like 2 per cent inflation (few have argued for lowering the target) and have a population growth rate of almost 2 per cent per annum, then 5 per cent nominal GDP growth might be a reasonable benchmark.  Current nominal GDP growth is well below that, just as current inflation (headline or core) is well below the 2 per cent inflation target.

So, shifting between CPI or nominal GDP based rules, levels or rates of change, looks as though it would not make much difference to how one thinks about appropriate monetary policy at present, at least on the current data.

But as I noted earlier, central banks aim to base policy on forecasts, so the issue is not so much where inflation or nominal GDP is right now, but where the central bank thinks it will be in a year or two’s time.  My proposition is that most of the mistakes central banks have made in the last decade or two have been forecasting mistakes rather than policy rule mistakes.  Monetary policy wasn’t tightened soon enough during the boom years partly because Alan Bollard was a dove, but partly because the Bank –  and most other forecasters even more so –  recognised the immediate inflation pressures, but forecast that they would soon dissipate.  They were wrong, and as a result inflation and nominal GDP growth were higher than forecast.  Similarly in the last few years, central banks have underestimated how weak both inflation and nominal GDP growth have been.  If one could forecast nominal GDP more reliably than inflation, perhaps the case for change would be stronger, but outside recessions the big source of fluctuations in New Zealand’s nominal GDP is international commodity prices.  They are highly volatile, and the volatility dominates any trend movements over the sorts of period relevant to monetary policy.

An international conference was held in Wellington a year ago this week to mark 25 years of inflation targeting, and the papers have recently been published.  Several academics presented a paper looking at how inflation targeting compared with nominal GDP targeting for New Zealand.  They looked at a variety of different time periods, including the pre-liberalisation period, the transition to a more liberalised economy, and the current period.  The authors were sympathetic to the case for nominal GDP targeting.  I was asked to be the discussant, bringing a practical policy perspective to bear on the issues raised in the paper.  In my remarks, I set out some of the reasons why I’m not convinced that a practical nominal GDP rule would represent a material advance over (practical) inflation targeting.

One of the attractions of nominal GDP targeting is that it prompts a monetary policy tightening when export commodity prices rise, even if there is no immediate rise in consumer prices. But as I noted one needs to think specifically about the characteristics of the particular economy.

In thinking about an export price shock, it might also be important to understand the transmission of the shock across the rest of the economy. A highly open economy, in which a generalized export price shock affected firms across an employment-rich wide-ranging export sector, might look considerably different than a sector-specific shock in a moderately open economy where the commodity production sectors employ relatively little labor (the story in New Zealand dairy, and much more so in Australian minerals and gas extraction). If New Zealand experiences a surge in dairy prices, and much of the proceeds are saved by farmers—perhaps because they are very conscious of the volatility of prices—why would one want to tighten monetary policy against that lift, if there was little or no apparent spillover to domestic (wage or price) inflation? Perhaps if the shock destabilized wage expectations there could be a basis, but there has been little sign of that sort of wage-setting behavior in response to recent export price shocks. The issues are even more stark in Australia, where most of the profit variability in the face of export price shocks accrues to non-Australian owners of capital (whose consumption choices are likely to put few pressures on domestic resources in Australia).

Partly for this reason, over several years I have been drifting towards the conclusion that if one were to replace inflation targeting with another rule, in New Zealand’s case nominal wage targeting might have rather more appeal.   I noted

Much of the academic discussion of inflation targeting focuses on the idea of stabilizing the stickier prices in order to minimize the real costs of adjustment to shocks. Since, as this paper agrees, wages are typically among the stickier prices, perhaps we should be more seriously considering the merits of nominal wage targeting, as Earl Thompson argued decades ago. I have noted elsewhere (Reddell 2014) that such a rule could even have financial stability advantages. Nominal wages are the prime basis for servicing the nominal household debt that dominates the balance sheets of our banks. Faced with adverse shocks, and especially deflationary ones, nominal debt is arguably the biggest rigidity of them all. It would be interesting to see such a rule evaluated in a suitable model.

But…..

If productivity shocks were the dominant source of dislocations in New Zealand, such a wage rule could also have considerable appeal— shifting the variability into the price level rather than into (sticky) nominal wage inflation. As it is, over the last twenty years, wage inflation has followed a rather similar path to core CPI inflation— and does not look much like fluctuations in the path of nominal GDP (or in NGDP per capita, or NGDP per hour worked). So perhaps, at least over that period, policy should have looked very little different under a wage rule than under the CPI inflation targets that successive ministers and governors have agreed upon.

Of course there might be considerable political/communications difficulties with wages-targeting.  But this would be nominal wage targeting: actual real wages and the labour share of income would still emerge from the market process.   But given these communications difficulties, the case for change would have to be stronger than it is right now (although for what it is worth, current wage inflation also probably argues for looser monetary policy –  just like the CPI or nominal GDP).

I have little doubt that inflation targeting is not the “end of history” for monetary policy.  But the choice between inflation, nominal GDP, or wage targets –  in levels or growth rate terms –  doesn’t seem to be the biggest issue we face in designing monetary policy and the related institutions.  In practical terms, each would rely on forecasts, and our forecasts simply aren’t very good.  And each still faces the issue of the near-zero lower bound.  There are arguments that levels targets might help alleviate the ZLB, but only zealots think that in isolation it would make a huge (or sufficient) difference.  We need much more energy being applied to either removing the ZLB constraints (which are essentially regulatory in nature) or raising the target for inflation (or nominal GDP or wages growth) sufficiently so that the zero bound is no longer likely to be binding.  The Bank of Canada is right to be looking at this issue.  Other central banks and finance ministries need to be doing so.

And I still think the other issue is one of just how much accountability there can actually be for autonomous central banks implementing monetary policy.  As I have noted recently in both the New Zealand and US contexts, in practical terms there is very little.    In the United States, John Taylor has argued for legislating something like a Taylor rule as a benchmark against which the Federal Reserve’s judgments can be formally evaluated, requiring the Fed to explain deviations from the recommendations of that rule.  Some on the political right argue for a return to the Gold Standard.  I don’t think either would be desirable, but in a sense both are reactions against the delegation of too much unchecked power to central banks.  The original conception in New Zealand was of a high degree of effective accountability –  an easy test as to whether or not the Governor has done his job. Money base target ideas had a similar conception –  plenty of delegation, but plenty of effective accountability.  It turned out not to be so easy.  But if we cannot meaningfully hold these powerful independent agencies to account –  in ways that mean real consequences for real people –  I suspect the debate will begin to turn again as to whether the power should be delegated to unelected officials at all.  Citizens can vote governments out of office, and that has real consequences for real decisionmakers.

The Joint (TPP) Declaration – another Reserve Bank OIA abuse

Michael Reddell OIA, Reserve Bank, TPP

On 6 November I posted about the joint declaration of the macroeconomic policy authorities of the trans-pacific partnership countries.  This non-binding declaration dealt with issues around exchange rate management etc.  It was, apparently, a price set by the US Congress for being willing to consider legislation to implement the TPP agreement.

The declaration was announced in a joint press release from the Governor of the Reserve Bank and the Secretary to the Treasury.  As they noted in their Q&A accompanying the press release:

This is an understanding among our macroeconomic agencies. It is not a treaty among TPP governments.

My conclusion, which seemed reasonable at the time, was that both the Reserve Bank and the Treasury were parties to this declaration.  Everything in their documents suggested so, and if we are going to have such declarations at all then it makes sense for the operationally autonomous central bank to be a party to it.

I was, however,  struck by one sentence in the declaration, which stated

We, the macroeconomic policy authorities for countries that are party to the Trans-Pacific Partnership…welcome the ambitious, comprehensive, and high-standard agreement reached by our respective governments in Atlanta.

I wondered (a) whether such judgements were really appropriate for non-partisan public servants to be making, and (b) what basis the Governor and Secretary had had for reaching their judgement.  In truth, I was more interested in the Reserve Bank’s response, since I knew that Treasury would have been reasonably actively involved in the whole process.  Accordingly, I lodged an OIA request with each agency.

Today I received this response from the Reserve Bank.

On 6 November 2015, you made a request under the provisions of Section 12 of the Official Information Act (the Act), seeking: 

Copies of any analysis and position papers etc undertaken by those two agencies (RBNZ and Treasury) which provided the basis for their judgement that TPP was an “ambitious, comprehensive, and high-standard” agreement.

The phrase you’ve quoted comes from the Joint Declaration of the Macro-economic policy authorities of Trans-Pacific Partnership Countries published on the United States Treasury website. That document was agreed between the signatories to the TPPA (Australia, Brunei Darussalam, Canada, Chile, Japan, Malaysia, Mexico, Peru, Singapore, the United States and Viet Nam).

Work to analyse the TPPA, and to advise the Government about the TPPA, was performed by the Treasury, the Ministry of Foreign Affairs and Trade, and possibly other agencies too. The Reserve Bank did not undertake its own specific analysis and so does not hold information within the scope of your request. The Bank is refusing your request under the grounds allowed by section 18(e) of the Act – the document alleged to contain the information requested does not exist.

A number of things are puzzling about this response:

  • The Bank refers to the declaration being on the US Treasury website.  But the RB/Treasury press release had a link to a copy of the declaration on the New Zealand Treasury’s website.
  • The response states that the declaration “was agreed between the signatories to the TPPA” but, as noted above, in their release the Governor and Secretary said that it was an agreement between macroeconomic policy authorities.  Is the Reserve Bank one of these authorities or not?  And if not, why was the Governor party to the press release?
  • It is also stated that the Reserve Bank neither undertook any analysis of the TPP agreement itself, and nor does it hold information prepared by other agencies.    They state that the information I  requested simply does not exist.  In other words, despite apparently being party to a declaration that lauds TPP as an “ambitious, comprehensive and high standard” agreement, that specific judgement –  really quite political in effect –  is apparently based on nothing on at.  No documents, no file notes, no analysis, no emails.  Is this  the standard of policymaking we should expect from the Reserve Bank?

Finally, if there is really nothing at all, how come it took 17 or 18 working days to respond?  As a reminder, the Official Information Act requires agencies to respond “as soon as reasonably practicable”.  I can understand it taking two or three days, but this response looks like yet another highly questionable abuse of the Act.

I’ve now lodged a further request for any material the Bank did consider prior to issuing the joint press release on 6 November.  Perhaps that will help finally confirm whether the Reserve Bank really is a party to this or not.

 

Is promoting R&D New Zealand’s path to prosperity?

Michael Reddell New Zealand economic performance

The Productivity Hub is a partnership of agencies which aims to improve how policy can contribute to the productivity performance of the New Zealand economy and the wellbeing of New Zealanders. The Hub Board is made up of representatives from the Productivity Commission, the Ministry of Business, Innovation and Employment, Statistics New Zealand and the Treasury

The Productivity Hub yesterday hosted a symposium in Wellington with the title “Growing more innovative and productive Kiwi firms”. “Growing” things is usually something gardeners do – people doing stuff to things. So the title perhaps carried somewhat unfortunate connotations of successful firms being the products of government action. That probably wasn’t their intention, at least not wholly, but then again it wasn’t entirely out of line with the list of attendees – 161 names, of whom at least 150 would have been bureaucrats, academics, and the like. There appeared to be only a very small handful of people from the (non-consultancy) private sector.

I had to leave early (schools finish at 3pm) and I gather I might have missed the two best papers of the day, from a couple of overseas academics. But what I did see was pretty disappointing. It confirmed a sense that our leading government agencies still have no real sense of what explains New Zealand’s persistently disappointing productivity performance, or of what – if anything – might be done to remedy that. But there is a hankering to “do stuff” in the innovation/research area.

The day didn’t start particularly convincingly when, in his introductory remarks, a senior member of the Productivity Hub remarked that they had been along to see the Minister of Statistics to tell him about the value of the research that was being undertaken under the auspices of the Hub. The Minister had, apparently, asked what was in it for the plumber from Masterton. The bureaucrats replied that research showed that good human resource management was good for productivity, so the plumber might get value from knowing that treating his staff well, and asking about their weekends on Monday morning, might be good for business.   I could only imagine the reaction of the plumber to learning that his taxes had paid for this stunning insight.

Of course, there is more to the research than that. But official agencies still don’t seem to be getting to the bottom of the issues, and are mostly identifying symptoms (perhaps understanding them in a better and richer way) rather than causes.

In some circles – perhaps especially in MBIE – there is considerable enthusiasm for additional activity encouraging businesses to do more research and development. But again it mostly seems to be tackling symptoms rather than getting to a deeper understanding of why New Zealand firms rationally make the choices they do.

Consistent with that, we heard from Sarah Holden at the quango Callaghan Innovation. Their government-mandated aim is to increase business enterprise spending on research and development (“BERD”) from around 0.6 per cent of GDP to 1 per cent of GDP.  To do so, apparently they have already spent $403 million in R&D grants in their first two years. It is early days, so I might have expected just upbeat rhetoric. But to her credit, Holden told us that the experience to date was that “big companies do fine without us – but like the grants – while small companies don’t use Callaghan’s R&D facilities as much as Callaghan would like. The grants don’t seem to be making much difference.”   It was tempting to ask “so why are we spending all this money so freely?”   No one did so, at least openly.

We also heard an interesting presentation from Shaun Hendy, from the University of Auckland.  He had some fascinating data on the importance of networks etc, and the way in which the number of patents per capita increases as the size of the city increases.  But it wasn’t clear that he was aware that there is no real evidence that big countries, or countries with big cities, have been achieving faster productivity growth than small countries.

Perhaps the weakest part of the day was the keynote address from Gabs Makhlouf, the Secretary to the Treasury,  headed “Innovation, diffusion, and markets”.  At such conferences, agency heads usually content themselves with some brief introductory or concluding remarks.  But this was billed as a keynote address.  Gabs apparently thought he had something enlightening to say on the issues of innovation, productivity, and economic performance.  He didn’t.  There was a lot of “all hands to the pump” rhetoric –  which seemed like a convenient substitute for hard analysis.  What evidence, for example, does the Secretary have that the private sector is responding inappropriately, given the policy framework set by successive governments?

He was, however, adamant that the answer to the disappointing productivity performance is not a lower exchange rate.  I was quite taken aback by that –  especially when he went on to assert that to believe that a lower exchange rate was important was to put oneself on “the road to doom”.   When I checked the Treasury’s most recent Briefing to the Incoming Minister, they didn’t seem to share that perspective –  although they rightly pointed out that a different monetary policy regime is not a path to a sustained lower real exchange rate.    As ever, it would be interesting to know what lies behind some of the Secretary’s assertions.

He also noted that New Zealand was not able to get the agglomeration advantages of some of the small European countries, in close proximity to large and wealthy markets.   But then he argued that we had the good fortune to be part of Asia, and the challenge was how to deepen our integration.  Perhaps he needed reminding that (a) most of Asia is still no better than middle income, and (b) all of Asia is a very long way away.  In the line Treasury often used to run, draw a circle with a 1000 km radius around Wellington and you get an awfully large number of seagulls and not much else.  Draw such a circle around Vienna, Stockholm, or Amsterdam and you capture several hundred million people in wealthy, highly productive, economies.

I also heard a presentation from an Australian academic, Beth Webster, who seemed to see a case for government spending on R&D in principle –  since the expected social returns from innovation will typically exceed the private returns.  But as her discussion of different types of support schemes proceeded, it wasn’t particularly persuasive that such support actually serves useful ends in practice.  And she seemed particularly critical of the competitive grants-based approach the current government has chosen to focus on, noting that heavy reliance on the expertise of evaluation panels (hard in a small country) and the difficulty of ensuring that the grants are actually inducing activity that would not otherwise take place.  The incentive on the part of recipients to misrepresent the situation is strong.

The context for all this is that not only is productivity (eg real GDP per hour worked) low in New Zealand, but so is research and development spending (as a share of GDP).  No doubt some of the difference is measurement – R&D tax incentives create an incentive to classify more spending as “research and development”, whereas in the absence of such schemes there is not the same reason to bother with isolating out every last dollar.    I suspect no one really doubts that business R&D spending in particular is quite low by international standards.  But as Adam Jaffe, from Motu, put it, the question is whether that is because the returns to R&D are low in New Zealand, or because there are obstacles to firms undertaking, or commissioning, valuable R&D.    Far too little effort seems to have gone into answering that question, even though the different possible answers might have quite different policy implications.

Enthusiasts for governments “doing something” direct on R&D tend to cite “spillover” arguments.  Many of the gains from any innovation are not captured by the innovators but by consumers.  That reduces the incentive to innovate (at least relative to some unrealistic benchmark). Webster noted we all gain from the wheel, and the descendants of the inventor do not (uniquely).  But then look around us, at the enormously sophisticated and advanced society in which we live, and wonder how it all happened, mostly without government R&D grants or tax credits.  And then ponder the quality of many, perhaps most, actual  – rather than textbook –  government expenditure programmes over the years.  I’m not persuaded of the case for government support for R&D  –  at least outside the areas of the government’s own operations (eg defence).

Here is the chart of business R&D spending as a share of GDP, for OECD countries.

BERD

New Zealand is towards the lower end, and all the countries to the right of us on the chart are also poorer than us.  But I don’t think it is that simple.  Formal research work done previously suggests that the rate of business R&D spending in New Zealand partly reflects the sort of stuff we produce.  One way to see that is to look the OECD’s commodity exporting countries, and compare them with seven economies at the heart of advanced Europe.  These are simply different types of economies.

BERD (% of GDP) BERD ( % of GDP)
Australia 1.23 Austria  2.03
Canada 0.93 Belgium  1.58
Chile 0.14 France  1.44
Mexico 0.17 Germany  1.96
New Zealand 0.57 Netherlands   1.10
Norway 0.87 Switzerland   2.05
Denmark   2.oo
Median 0.72 Median 1.96

In passing, it is also perhaps worth highlighting Israel –  an economy with very high business spending on R&D, and yet not only an economy with GDP per capita around that of New Zealand, but with a similarly poor longer-term productivity record.  They make and sell different stuff –  some of which clearly needs lots of R&D –  but not, overall, any more successfully than we do.

The 2025 Taskforce addressed some of these issues in their 2009 Report (around p 70).  They argued that more attention should be given to the possibility that high levels of business R&D spending might reflect more about where particularly economies are at (near the frontier or not, differences in product mix) rather than being some independent factor explaining the success or failure of nations.  In their view, a highly successful New Zealand was likely to be one in which more business research and development spending was taking place, but as a consequence of that transformation rather than an independent cause of it.  That still seems like a pretty plausible story to me –  although New Zealand is long likely to be primarily an exporter of commodities, and richer commodity exporters (Norway, Australia and Canada) don’t have particularly high levels of business R&D spending.

(And, at the extreme, I checked out the richer Middle Eastern oil exporting countries. Saudi Arabia, Oman, and Kuwait, for example, all have materially higher GDP per capita than New Zealand.  World Bank data for total R&D spending have the six OECD commodity exporters spending an average of 1.4 per cent of GDP on R&D, while those three wealthy Middle Eastern countries spend an average of 0.1 per cent of GDP.  The point is not that a successful New Zealand will spend at those levels, but that one needs to understand the distinctive features of our own economy.)

And that sort of perspective was largely lacking from yesterday’s Symposium.    I’ve argued for several years that if we want to remedy our economic underperformance, we need to focusing on addressing whatever aspects of policy account for our persistently high level of real interest rates.  Real risk-free interest rates are a component of the cost of capital.  Ours are higher than those almost anywhere, and that deters investment (and investment-like spending, such as R&D).  It has also helped skew our real exchange rate, holding it persistently up, on average, even as the large adverse productivity gap opened.  That skews investment (including associated R&D) away from the tradables sector, even though the rest of the world is where most the opportunities would otherwise be.  Oh, and we now have a relatively high company tax rate (and tax on capital income) –  even though plenty of good economic analysis suggests that capital income should be taxed more lightly than labour income.      And yet in the course of yesterday, we heard the Secretary to the Treasury vehemently deny the importance of the real exchange rate, and no one mentioned either the cost of capital or the tax treatment of capital income.  Address those issues, and I’m sure we would have an economy much more strongly oriented towards the tradable sector, would have a faster-growing business capital stock per person.  And I suspect that we would probably have rather more business R&D spending occurring –  the returns to doing it would probably be more attractive.

In a similar vein, I’d commend to readers Terence Kealey’s 2009 book Sex, Science and Profits.  Kealey is a professor of biochemistry, and former vice-chancellor of the (private) University of Buckingham.  This book builds on his less accessible The Economic Laws of Scientific Research  to make the case that science is not typically a public good, and governments do not need to fund scientific research (or, by, implication business R&D).  It is a very stimulating read, both on the history of innovation and on the scientific process.  I’m sure the bureaucratic tinkerers will have their quibbles with it, but it is an argument that should be engaged with much more seriously by New Zealand official agencies –  who need to shift their focus to getting broad government policy frameworks right, and then let businesses take care of themselves.  History suggests that when they do so, ingenuity flourishes and societies prosper.  Government interventions –  mostly well-intentioned, and however cleverly designed –  not so much.

The Productivity Hub was an excellent initiative, but they really need to be directing more of their efforts in the direction of the economywide/macroeconomic types of issues.  New Zealand is blessed with excellent microeconomic databases –  even if they are not always as accessible as they should be – but sometimes data availability determines the direction research takes.  I don’t think the case has been made that the real issues that are holding back New Zealand are microeconomic in nature.

Weak inflation expectations – again

Michael Reddell inflation, PTAs

A couple of weeks ago I wrote about the results of the Reserve Bank’s Survey of Expectations  –  the quarterly survey of relatively well-informed participants and commentators.     Those expectations were still very subdued, with little sign of any expectation that (for example) core inflation would soon return to the 2 per cent target midpoint, which the Governor has undertaken to focus on.

Since then a couple of other inflation expectations surveys have come out.  Both the ANZBO business survey and the Reserve Bank’s household expectations survey question on inflation have had an upward bias for many years.  Reported expectations are, on average, well above both actual inflation at the time the survey was taken, and above the actual inflation rate for the period to which the expectations related.  Both are measures of year-ahead expectations.

The Reserve Bank’s household expectations measures remain very subdued.   In the 20 year history of the survey median year ahead expectations have never been lower than they have been over the last few quarters.  And when the survey started, the inflation target midpoint was 1 per cent inflation not 2 per cent.    Unless the relationship between core inflation (ie excluding the “noisy” bits like swings in oil prices) has suddenly changed, if inflation actually picks up materially over the coming year –  as the Reserve Bank keeps telling us it will –  these respondents will be surprised.

household expecs

The survey also asks respondents directly whether they think inflation over the next year will go up, down, or stay the same.   Again, there is a systematic bias in the survey –  net, respondents have always expected inflation to rise.  But outside the depths of the 2008/09 recession –  the inflation effects of which people then thought would be short-lived –  expectations for headline inflation rising have never been weaker.  And, as a reminder, the most recent headline annual inflation rate was a mere 0.3 per cent

household expecs 2

The survey now also asks about five year ahead expectations.  We only have data since December 2008, but for what it is worth these longer-term expectations have never been lower than they are now.

The latest ANZBO survey came out yesterday.  Inflation expectations dropped slightly, and looking at the chart that also seems to be a record low for the series.  The Reserve Bank might claim to take comfort from the fact that expectations are still 1.6 per cent, not too far from the target midpoint.  They shouldn’t.  Again there has been a persistent bias in this series, and no obvious reason to think that that relationship has changed.

ANZBO inflation expectations

At the other end of the range of measures, New Zealand has a 10 year conventional government bond and a 10 year inflation indexed government bond.  The gap between the two isn’t a pure measure of inflation expectations, but in normal circumstances it won’t be too far from what investors are implicitly thinking that inflation will be.   The monthly average difference for November, as reported on the Reserve Bank website, was 1.40 per cent.

There is talk today of business confidence being a little stronger than it was.  Perhaps, but the Reserve Bank’s job is to target inflation, near 2 per cent.  It hasn’t done that successfully for some years now, through the ebbs and flows of business confidence, commodity prices, and the Christchurch repair process.  And there is no sign in any of the recent surveys and related measures that that failure is about to remedied any time soon.

As the Governor contemplates his final OCR decision for the year, he should be thinking very carefully about these rather disconcertingly low expectations.  The Governor often tells us that he wants to stabilise the business cycle.  But if inflation expectations do become, in effect, entrenched at levels inconsistent with the inflation target, it can be very difficult –  and potentionally quite destabilising –  to get them up back again.

On a slightly different topic, I noticed the other day that the Bank of Canada has a page on its website about the extensive research programme it is planning in advance of next year’s quinquennial review of the Canadian inflation target (a non-binding agreement reached with the Minister of Finance).  The Bank of Canada has a strong track record of undertaking serious research in advance of these reviews.  They plan to undertake significant work on each of the following three topics:

  • The level of the inflation target
  • Measuring core inflation, and
  • Financial stability considerations in the formulation of monetary policy.

The first of these topics particularly caught my eye.  As they note:

 Canada targets 2 per cent inflation, the midpoint of a 1 to 3 per cent inflation-control target range. Since the last renewal of the agreement in 2011, the experience of advanced economies with interest rates near the zero lower bound has put the 2 per cent target under increased scrutiny. After taking all factors into consideration, the Bank will undertake a careful analysis of the costs and benefits of adjusting the target.

The process is an admirable one.  I have previously urged that, with the next (legally binding) PTA due to be negotiated in New Zealand in not much more than 18 months that a similar, open, process should be getting underway here –  commissioned jointly by the Minister of Finance, the current Governor, and the Secretary to the Treasury.  That would be quite a contrast to the very secretive way these things are typically done in New Zealand –  in the case of the 2012 PTA, secretive even after the event.

Doing the work is vitally important, but so is getting it out into the public domain and ensuring open scrutiny and debate of material that will influence the key document in short-term macroeconomic management for the next five years.   It would be valuable at any time, but should be particularly so now, after years of undershooting the target, and as the near-zero lower bound moves uncomfortably close again.  For example, with the benefit of hindsight was the move to a focus on the midpoint a mistake for New Zealand?  I don’t think so, but in view of his track record the Governor may, and there could be reasonable arguments on either side of the issue –  particularly in view of the potential interaction with financial stability considerations.

But what I thought was particularly praiseworthy was the Bank of Canada’s willingness to openly acknowledge that questions should be asked, in the light of changed circumstances, as to whether the 2 per cent target midpoint is still appropriate.  The issues are a little more pressing for them than for us, since Canadian interest rates are much near zero than ours are, but we cannot afford to be complacent.  And if it was decided that a higher inflation target was appropriate, the time to make that call is when there is still conventional monetary policy leverage available.  I’d probably still prefer authorities to take serious legislative steps to remove the zero lower bound, but the questions and issues should be asked and examined.  In New Zealand to date  –  including in the Bank’s Statement of Intent –  the issues and risks are not even acknowledged.

On reading “Migration Trends and Outlook”

Michael Reddell Immigration

It is a glorious day in Wellington, suggesting that summer might really be with us soon.  Tempting as it is to just get outside, I had been reading MBIE’s flagship annual report Migration Trends and Outlook 2014/15 and wanted to note (again) a few concerns about the apparent quality of the immigration policy analysis being undertaken by the government’s chief advisory agency in this area.

Recall that, in New Zealand, immigration policy is no minor matter –  it is one of the largest discretionary structural economic policy interventions undertaken by governments.  Each year, on average, we drift a little further behind Australia and the rest of the advanced world.  And yet each year we target bringing (permanently) another pool of people equivalent to 1 per cent of the existing population.

Migration Trends and Outlook is not a heavily analytical piece.   But it tells the story MBIE wants us to hear about New Zealand’s immigration.  And it simply isn’t very convincing.

The report saying that it is aimed at “policy-makers concerned with migration flows and their impacts”  and “the wider public with an interest in immigration policy and outcomes”.

So we should take seriously what it says.  It begins with this statement:

1.2 Why immigration is important

Immigration helps grow a stronger economy, creates jobs and builds diverse communities. Skilled workers address skill shortages and bring skills and talent that help a wide variety of local firms. Business migrants bring their networks, experience and capital to boost the economy. Visitors and international students bring in significant revenue, with international education and tourism being two of New Zealand’s biggest export-earning sectors.

Internationally, migrants are increasingly mobile, and competition for skilled people in the global labour market is strong. In 2014/15, as in other recent years, the focus of immigration policies continued to be on attracting skilled temporary and permanent migrants to help resolve New Zealand’s labour and skill shortages and to contribute to New Zealand economically.

The “skill shortages” line pervades the entire 66 page document, in a way redolent of a manpower planning exercise from the 1960s.  In fact, it reaches a peak in the Conclusion to the entire report where it is asserted that

Like many countries with declining birth rates, an aging population and high emigration of local-born people, New Zealand relies on migrants to fill labour shortages.

I’ve been trying to work out which countries MBIE has in mind here.  For a start, there aren’t that many relatively advanced countries that have an average annual net outflow of their own citizens in excess of 0.5 per cent of the population.  And of the countries with large average outflows of their own citizens (various eastern European countries for example), few have large scale inward migration programmes at all.  And of countries with large scale inward migration programmes  – Canada or Australia for example – I’m not aware of any others that also have large net outflows of their own people.

So the statement seems to be factually false.  But perhaps more concerning is the apparent sense that somehow the number of jobs in an economy is independent of the number of people, or the price of the services of those people, and that if it weren’t for the wise actions of a prescient government, the economy really couldn’t cope with (a) New Zealanders pursuing better opportunities abroad, and (b) New Zealanders choosing to have only modest numbers of children.

What I find remarkable in this document, as in other MBIE immigration work I’ve seen, is the absence of any sense of market processes, and how the market might sort these things out.  For example, if there are excellent opportunities here which New Zealanders are simply ignoring in their rush to get to Australia, surely we’d expect real wages to increase here?    If that happened, some of the opportunities might disappear.  Some New Zealanders might change their minds about going to Australia.  Some people might regard more training as worthwhile, to better equip themselves for those higher-paying opportunities.  Some will switch jobs from less rewarding ones, to the ones where the returns are now higher.  Some people might work harder or stay in the workforce longer.  But not one of these market mechanisms is even discussed.  And this from a key economic agency, implementing the policy of a vaguely centre-right government?  Does it not occur to them that “shortages” don’t happen in most markets, and when they do they are usually just a sign that the price has not adjusted.  Why does MBIE think that labour is different?

Although MBIE and the government seem to see immigration largely as a labour market phenomenon (“a critical economic enabler”), the price of labour  “wages”  appears only once in the entire document (purely descriptively).  “Price” does not appear at all.  In fact, “productivity” and “competition” each appear only once, in neither case in the context of an analytical sentence.  “Labour market” does appear repeatedly, but almost always only descriptively.  There is simply no sense, anywhere in the document, of a competitive market process at work.  If one were being unkind, one might think MBIE saw the role of government as being to ensure that the right pegs were in the right holes.

The “skill shortages” argument has been with us for many decades.  I was wryly amused to dip into a book over the weekend which reported the claims of New Zealand employers’ bodies in the 1920s urging high rates of immigration on exactly the same sort of “skill shortage” arguments.  You really wonder how countries without large scale immigration programmes managed to survive –  let alone to consistently economically outperform New Zealand over many decades.

Immigration advocates have sometimes argued that if only we can attract the cream of the global crop –  talent, initiative, ideas – we can lift the productivity of New Zealand as a whole, and that of the pre-existing population as well.  It was never very plausible –  short of some of global catastrophe, it was never obvious why the cream would now want to come to New Zealand –  a pleasant spot to be sure, but small and very remote, and not at the leading edge of very much.  There is periodic talk of the transformative powers of immigrants in Silicon Valley, but even if it were true there, why would it be likely (on the balance of probabilities) to work here?   We are small and distant.  San Francisco is neither.  And we have universities that, in most fields, are mediocre at best.  We are fooling ourselves –  or rather our governments seem to keep trying to fool us – if we believe that plausible immigration (volume, type of people, or whatever) is the answer to New Zealand’s economic challenges.  There is no sign it has been in the last 100 years, and the boosters –  MBIE chief among them –  offer no reason to think that is about to change.  We have to make our own future –  as most successful countries in the past have done.  If we do, perhaps able people will be clamouring to join us and we can (or not) take the pick of the crop.  For the present, it still seems more likely that rational New Zealanders will choose to leave for Australia whenever they can, although it is harder to do so than it was previously.

I’ve written previously about the relatively low-skilled nature of even most of those being granted residence as Skilled Migrants over recent years.  The table below (from the MBIE report) updates that for 2014/15. And recall that these are the principal applicants in the Skilled Migrant category –  ie the most skilled of our migrants.  They make up only around a quarter of our annual residence approvals.  Not all of the others will be less skilled, but on average they will be.  I don’t know about you, but this list does not suggest that our immigration programme is functioning as any sort of medium-term “critical economic enabler” (to use one of MBIE’s own phrases).

 

Main occupations for Skilled Migrant Category principal applicants, 2014/15  
   
Occupation 2014/15
Number %
Chef 699 7.2%
Registered Nurse (Aged Care) 607 6.2%
Retail Manager (General) 462 4.7%
Cafe or Restaurant Manager 389 4.0%
ICT Customer Support Officer 282 2.9%
Developer Programmer 209 2.1%
ICT Support Technicians nec 205 2.1%
Software Engineer 147 1.5%
Accountant (General) 138 1.4%
Early Childhood (Pre-primary School) Teacher 127 1.3%
Marketing Specialist 124 1.3%
Dairy Cattle Farmer 123 1.3%
Carpenter 122 1.3%
Electrician (General) 111 1.1%
Office Manager 106 1.1%
Baker 105 1.1%
Program or Project Administrator 97 1.0%
Software Tester 95 1.0%
Sales and Marketing Manager 94 1.0%

I noted the other day, that the residence approvals target has not been met for the last five years (the target is 45000 to 50000 per annum, and approvals have lagged a bit below 45000 each year).  That raises some questions about even the design of our immigration programme.  I’ve always tended to work on the assumption that since most of the world is much poorer than we are, it should never be a problem finding enough immigrants if we wanted them –  even notionally “skilled” ones.  Returns to labour in New Zealand are higher than anywhere in Africa, Latin America, the Pacific, or most of Asia.  There are plenty of English speakers who could pass health and security tests.  So how come we can’t fill our targets with suitably “skilled” people –  especially as the skills threshold seems depressingly low?

I wonder if it is partly because most residence approvals are now granted to people already living in New Zealand (around 70 per cent) –  that is typically people here on a work visa, or a study visa.   The logic is apparently that people adjust more easily if they are already familiar with New Zealand.   So in applying under the skilled migrant category you get points for having a job or confirmed job offer.  92 per cent of successful applicants got points that way.  You also get points for a job outside Auckland, even though Auckland is the fastest-growing part of our economy –  just over half of all those with jobs/offers claimed points for jobs out of Auckland.

But it is expensive to come to New Zealand –  particularly for people relocating a family here.  And it is hard to effectively job-search from abroad.    And we impose an additional cost by rewarding people who get job offers in the less productive parts of the country (with fewer alternative future opportunities).   Personally, I think our immigration policy is pretty deeply flawed, but if our governments are serious about wanting lots of skilled migrants shouldn’t we think about putting fewer roadblocks in the path of any able person who wants to come?  There seems to be something wrong with the fact that a country with still relatively high returns to labour can’t manage to fill its immigration target (despite alleged “skill shortages”), even by taking such a pool of rather dubiously “skilled”people.    10000 a year (the number of skilled migrant principal applicant granted approval) simply isn’t that many in world terms –  we really should be able to do better than having the four most common occupations of our skilled migrants being chefs, aged care nurses, retail managers and café and restaurant managers.

Perhaps the continued emphasis on skill shortages is a sign that MBIE has largely given up on the other channels by which immigration might boost “the prosperity and wellbeing of New Zealanders” [the phrase from MBIE’s own mission statement]?  But even if so, the “skill shortages” argument –  for the sorts of people New Zealand is mostly importing –  is pretty intellectually slipshod.  In addition to the points I noted earlier, the MBIE document is also devoid of any macroeconomics.  It has long been pretty common ground among New Zealand macroeconomists that, whatever the possible long-term effect of immigration, in the short-term immigrants add more to demand than they do to supply.  The Reserve Bank’s own research shows it.  But what that means is that even though an individual immigrant might relieve an individual employer’s “skill shortage”, in aggregate an increase in immigration increases the pressure on the labour market as a whole. Resource pressures are intensified and not eased.  If the knowledge transfer and productivity stories carried much weight now for New Zealand –  as perhaps they may have in the 19th century – that might be fine.  But there is no evidence of that channel having worked, and no real sign of that changing soon.  And yet if our immigration policy is supposed to ease skill shortages it is almost doomed to fail by construction.

We deserve rather a better quality of analysis from a large public agency paid to provide high quality economic advice on immigration and economic performance issues.  I hope that when the Cabinet has been reviewing the residence approvals target recently they have been more willing to ask some hard questions about just what is being achieved by our immigration programme than has been evident to date.

Founding the Fed

Michael Reddell Central banks

It has been at least a week since I mentioned central banks on this blog  – probably a first.   There are many areas of economics and public policy that interest me more, and which matter more.  But I have just finished reading Roger Lowenstein’s new book, America’s Bank: The Epic Struggle to Create the Federal Reserve.  The Federal Reserve opened for business on 16 November 1914, amidst  the global liquidity crisis, affecting the United States as much as the combatants, created by the outbreak of World War One.   There was, of course, little hint of what was to come when Woodrow Wilson had signed into law the new Federal Reserve Act into law on 23 December the previous year, one of the landmark pieces of legislation in Wilson’s first year in office.

(For anyone wanting to know more about the 1914 crisis, there are two worthwhile modern books; Saving the City  is a British-focused global story and When Washington Shut Down Wall Street is the American story.)

Lowenstein is a financial journalist (rather than an economic historian), with a number of books to his credit.  He is perhaps best-known for When Genius Failed: The Rise and Fall of LTCM.  His tale of the political and banking background to the passage of the Federal Reserve Act is a very readable account for anyone interested in the topic.   In places, it felt like an account of 1912 presidential election campaign – a particularly torrid affair as the Republican incumbent, Taft, was challenged at the general election both by the Democrat Wilson, and by Theodore Roosevelt, Taft’s predecessor and former friend and mentor.  I hadn’t realised how important William Jennings Bryan –  1896 Democratic nominee, and author of the famous Cross of Gold speech –  still was in the Democratic party’s own debates on a central bank.

By the early 20th century, the United States was relatively unusual , but hardly unique, in not having a central bank.  Britain, France, Japan, Germany and Italy all did, but then Canada, Australia, South Africa and New Zealand did not.  The US had had central banks previously –  the most recent had lost its position when Andrew Jackson vetoed the renewal of its charter in the 1830s.   But what marked out the United States in the 1900s was not the absence of a central bank but the presence of repeated severe financial crises –  the most recent in 1907, the effects of which –  while relatively short-lived-  were felt around the world.  As I’ve noted here previously, it is not as if the repeated financial crises seemed in any way to be derailing the longer-term  progress of the United States or the sustained lift in living standards.  At the time, the United States competed with places like New Zealand and Australia for having the highest material living standards in the world.

But in the short-run, the crises were enormously disruptive,  and even the seasonal pressures  – in an economy where farming still played a large role –  were large.  There were plenty of signs that something was broken, and some fix was needed.

The fix chosen turned out to be a central bank –  or rather, a system of regional central banks, loosely overseen and bound together by the Federal Reserve Board in Washington.

It needn’t have been.  Lowenstein tells the story as if the only sensible outcome was the founding of a central bank –  an outcome towards which all history was tending.  He tells his story vividly, and draws on a wide range of primary and secondary sources –  and the cover includes plaudits from former central bankers Ben Bernanke, Alan Blinder, and Paul Volcker.  But the book is weakened because the author shows no sign of having engaged with the alternative hypotheses about what had left the American system so prone to crises.    Many –  most recently Calomiris and Haber – have noted the contrast between the US system and that of Canada, which has been largely free of serious financial stresses before and after the founding of the central bank in 1935.  On a much smaller scale, but also in a heavily agricultural economy, one could include among the relative stable systems that of New Zealand.

If what rendered the US prone to crisis was the absence of a lender of last resort –  or even of external seasonal finance –  then the case for a central bank was much stronger. But a plausible case can be made that what left the US system prone to crises was the regulatory structure put in place over the previous few decades.  The United States system pre 1914 is often loosely characterised as “free banking”.  In fact, it was a highly regulated system.  The two most important regulations were the restrictions on branch banking and interstate banking, which made it very difficult for banks to effectively diversify risks, including liquidity risks, and the restrictions on the issuance of notes.  Physical currency was still a hugely important medium, and demand was highly seasonal.  State banks could not issues notes, and national banks were able to issue their own notes only to the extent that they held US government bonds to back them.  Bonds were relatively scarce, and expensive and, as noted, the demand for notes was highly seasonal.  The conversion of a deposit into a note did not change the nature of the credit risk the holder of the claim faced, but the ability of banks to do that readily, when customers wanted it, was constrained by law.  Perhaps the political economy would have made dealing with the restrictions on the geographic scope of banks impossible  at the time (it took many decades), but Lowenstein does not even deal with the question of whether, for example, amending the restrictions on the note issue might have largely dealt with the pressures –  for an ‘elastic currency’ – that, at the time, gave rise to the creation of the Fed.

Not doing so perhaps make the construction of his narrative easier, and more powerful.   But by not treating seriously those opposed to the creation of a central bank it does limit the insights he can offer.  Some perspectives from, say, the archives of the Bank of England of the Banque de France on what they made of the whole long process might also have been interesting.   Of course, the beauty of being a big country is that there are many other books and papers that deal with some of these issues.

I notice that George Selgin, from whom I’ve learned a great deal over the years, expresses similar views in his own comments on Lowenstein’s book and offers some richer comments on the weaknesses of the pre-1914 regulatory structures.  To repeat, Lowenstein’s book  is a good read, especially for anyone interested in the politics of it all, but just bear in mind the limitations

Our own central bank was not founded for another 20 years, opening for business on 1 August 1934.  There is a line commonly heard these days that central banks were largely created to deal with financial system stresses.  That was true in the United States –  although the most severe crises in US history have come since 1914 –  but it certainly wasn’t true here (or in Australia or Canada).  The Reserve Bank of New Zealand was created to allow independent macroeconomic management for New Zealand, especially to be distinct from Australia.    No one envisaged anything quite like modern discretionary central banking, with data reviews and potential policy adjustments ever six or eight weeks.  But it was about ensuring that New Zealand conditions –  export earnings and access to credit in London –  drove the behaviour of domestic credit in New Zealand, not those of the larger Australasian area.   New Zealand’s sovereign debt was extremely high around the time of the Great Depression, but nothing like as concerning to lenders as that of Australia.

Gary Hawke’s 1973 history of the Reserve Bank, Between Governments and Banks, remains the best account of the background to the founding of our central bank.    A more easily accessible perspective, by Matthew Wright –  a New Zealand historian on the Reserve Bank’s staff – is here.

If they build it, what if no one comes?

Michael Reddell Public finance, Wellington

A throwaway line of mine a couple of weeks ago about the Wellington City Council’s enthusiasm for the proposed airport runway extension prompted a couple of comments here from Tim Brown, chair of Wellington International Airport Limited (WIAL) –  owned 66 per cent by Infratil and 34 per cent by the Wellington City Council.  As I noted in response to Tim, I was predisposed to be sceptical about the proposal, but would be keen to see the analysis when it was published.

This week a swathe of reports was released, including a cost-benefit analysis prepared for WIAL by Sapere Research Group.  The Dominion-Post led with talk of $2000 million of benefits for an investment of $300 million or so, suggesting that there really shouldn’t need to be much further debate about the economic merits of the proposal.

But, of course, any cost-benefit anaIysis is only a reflection of the assumptions fed into it.   So I spent some time yesterday reading the report.  I had a few questions and observations, and was left unpersuaded that this was a proposal that either my rates or my taxes should be used to fund.  Quite possibly, this proposal could offer even worse value than Transmission Gully –  as the WIAL report notes, the benefit to cost ratio  for that project is only 0.8.

The report proceeds by analysing three options:

  • Option 1:  Build the extension now, to be open from 2020.
  • Option 2:  Build it in 10 years time, to open from 2030,
  • Option 3:  Using the equivalent of the capital cost of the extension instead to promote Wellington airport as a “tourist and airfreight hub” for the next 40 years (the estimated economic life of the extended runway).

The alternative options seem designed to deal with the irreversibility involved in committing now to build now.  I’m not convinced that the delay option does that to any useful extent.  Will it be any clearer 10 years hence whether a material number of long haul flights from Wellington will be viable?  It doesn’t seem quite like a decision on whether to invest in a new technology now, or wait a few years until it is more apparent what the potential of that technology is.

In any case, the bottom line is the estimated benefit-cost ratio for each of the three options.

Option 1                               1.7

Option 2                               1.6

Option 3                               1.4

Even just reading that far into the summary, my eye was drawn to Option 3, and then Option 2, and only finally to Option 1, WIAL’s preference.  Why?  Well, if a heavy promotional programme could really boost passenger numbers etc as much as extending the runway (as the scenario assumes), why not just go for that.  If it works, most of the benefits accrue anyway.  And if it doesn’t, the programme is not irreversible and could be canned five or ten years hence.  As for Option 2, it delivers almost all the benefits of Option 1, without having to do anything for 10 years.

The report had quite a lot of interesting material about how a longer runway will allow airlines to use aircraft more efficiently than they do now.  Load factors will, apparently, be able to be increased on the trans-Tasman flights and a longer runway will also apparently allow landings and take-offs to be done in ways that put less pressure on engines and tires than is the case now.   That all sounded plausible enough, but they also sounded like gains that should be able to be captured by WIAL in, for example, its landing charges.

It was a little hard for me to tell – I might have missed something in the tables – but main factor in the success or failure of the airport extension if it went ahead seems to be whether and, if so, how many long haul international flights and passengers would be added.   The sceptics’ worry is that if they build it, perhaps no one will come.

The cost-benefit analysis does not look at that scenario at all.  It uses traffic volume forecasts and scenarios prepared by another set of consultants.  Using Monte Carlo simulation techniques they generate scenarios that are supposed to represent 5th and 95th percentiles around the central forecasts.

Even in the low scenario, international passenger numbers are forecast to grow by 2.5 per cent per annum over the next 45 years in the business-as-usual baseline.  Add in the runway extension –  and recall that this is the low scenario (the 5th percentile) –  they are forecast to grow by 3 per cent per annum.  Over 45 years, those cumulate to really big differences:  204 per cent growth vs 278 per cent growth .   The consultants estimate that there is only a 5 per cent chance that passenger numbers will fall below these levels.  But how credible is that?   Shouldn’t we at least see a scenario in which no long haul services use Wellington airport, and the only gains result from the ability of existing operators to use aircraft more efficiently?

One of the puzzling – or perhaps not so puzzling –  aspects of the report is the complete absence of any analysis of Christchurch airport’s experience with long haul flights.

The traffic forecasts, prepared by InterVISTAS, involve a central scenario in which in thirty years time there would be 56 long haul departures a week from Wellington (eight per day on average).   This is defended with the observation that “Wellington in 30 years time. (FY 2045) will have less than half the number of average weekly frequencies on long haul services as Auckland has now.”  And this was supposed to reassure me?  In addition to having almost four times the population of slowly-growing Wellington (and a larger hinterland), Auckland is inevitably a more natural gateway to New Zealand than Wellington is.  The authors go on to defend their assumptions with the observation that Adelaide has 44 weekly long haul departures (their forecast for Wellington in 2035).  But Adelaide is a city of 1.3 million people.

And still no mention of Christchurch.  Christchurch has about the same population as Wellington.  And if Auckland is one natural gateway to New Zealand, Christchurch is the other, given the much greater tourist appeal of the South Island (and the impossibility of long haul flights into Queenstown).  I couldn’t find an easy reference to how many direct long haul flights there are out of Christchurch at present, but there seem to five weekly flights to Singapore.  A new service to Guangzhou is also starting this month, so perhaps that is another five flights a week.  Other wide-bodied aircraft use Christchurch airport, but to get beyond Australia you still have to stop in Australia.

And it is not as if long haul international flights from Christchurch are relentlessly increasing.  I have distant memories of flying direct into Christchurch from Los Angeles, but that was 10 years ago, and the service is long gone.  AirAsia’s direct flights from Malaysia to Christchurch didn’t last long either.

Surely it is such an obvious comparator that the Christchurch experience really should have been addressed directly?  I can think of a couple of areas where demand for flights in and out of Wellington might be greater than those to and from Christchurch –  business and government, and they are probably more lucrative than leisure travellers –  but we should have seen the analysis?  At the moment, it looks as though the Christchurch story might be a little uncomfortable and so has been quietly ignored.  (Canberra comparisons might also have been interesting.)

For a long-lived asset one would normally expect the discount rate used to make quite a difference to the viability of the project.  Cash flows far into the future aren’t worth very much if the providers of the capital have a high cost of capital, and thus need a high discount rate to be used.

The main analysis in this report uses a real discount rate of 7 per cent.  I am a bit puzzled by that.  The authors defend it by reference to the Treasury’s guidance on evaluating infrastructure and single-use building projects (eg hospitals and prisons).

Frankly, I’m sceptical that that is an appropriate discount rate for this project.  And I would be astonished if Infratil –  the dominant shareholders in WIAL – treated their own marginal cost of capital for a project like this as being as low as 7 per cent real.  Perhaps a case might be made for something that low in respect of projects that depend simply on existing traffic (growth) patterns –  eg the current extension to the domestic terminal at Wellington –  but at the margin this runway extension has the feel of a much higher risk project.  After all, they could build it and no one might come.  I’ve written previously about government discount rates, and also linked to a recent Reserve Bank of Australia article suggesting that private sector firms are typically using hurdle rates of at least 10-13 per cent nominal (almost as many in the 13-16 per cent range).

However, the report does include some sensitivity analysis.  For the central scenario of Option 1 (build the runway extension now), recall that a 7 per cent real discount rate produced a benefit-cost ratio of 1.7.  Using a 10 per cent real discount rate only reduces that to 1.6.    I don’t understand why that is.  Perhaps it is because the capital costs are quite small compared to the additional operational costs airlines would face in putting on the new services (thus many of the costs and benefits are matched in time) but it still doesn’t seem quite right –  especially from the perspective of the ratepayers/taxpayers asked to put up the capital cost now.

The report included in its calculation of the benefits to New Zealand the GST paid by the additional foreign visitors.  I was a bit puzzled by this, but perhaps I’m missing something.  If we assume that the economy is on average fully employed, isn’t it likely that one additional form of exports will be, in part at least, at the expense of some other form of exports?   Discovering huge oil deposits, say, will crowd out manufacturing or tourism exports.  New Zealand as a whole might be better off, but not to the extent determined just by the increase in one form of exports.  Same goes for even high value airport extensions surely?

Many of the gains in the report seem to flow from the additional competition that it is assumed that the longer-runway will make possible.  They cite some impressive numbers for how much lower fares are for international routes out of Christchurch or Auckland relative to Wellington.  But if we grant that that is a plausible story, again surely this aspect of the extension should be able to be self-financing?  For example, if having a longer-runway in Wellington lowered airfares for people from the lower half of the North Island by 10 per cent (the report talks of 20-30 per cent premia at present), surely the airport departure charge for those sorts of flights could be adjusted accordingly?  The report spent surprisingly little time discussing such issues/options.  Perhaps there are Commerce Commission obstacles to such charging?  But if so, surely they should be identified in the report?

While WIAL is a commercial operation, it seems pretty clear that the runway extension does not really stack up on commercial grounds.  We aren’t told on what basis Infratil would be happy to proceed with this project –  if they really are at all –  but the report is clearly written with a political (and voter) audience in mind, rather than a commercial one.  Section 2.9 devotes several pages to various sets of central planner objectives –  the current Wellington City Council’s 25 year vision, international air transport policy, current central government tourism targets, national infrastructure plan goals, and something chillingly called the “Leadership Statement for International Education”.  Not much about the market, or risk and return there.  Just the whims of a current set of bureaucrats and politicians, who might be beguiled into using other peoples’ money to proceed with this project.

Perhaps this is too glib, but there does seem to be a relatively straightforward solution.  It isn’t obvious why Wellington City Council still holds 34 per cent of the airport.  If the project really stacks up for Infratil, it should be a good time for Wellington City to sell its stake[1], and let the private sector go for it.  It looks like a pretty risky proposition, but (I’m a bureaucrat by background not a business person and ) if private shareholders want to put their capital behind it then I’m fairly happy for it to proceed (assuming the environmental issues etc can be adequately addressed).

Of course, a common response might be that the putative benefits are national or regional and the costs would fall to the operators of the airport.  I’m not persuaded.  As I’ve noted, many of the gains documented in the report seem as though they should be able to be appropriated by the airport operator, at least to the extent required to cover its own cost of capital.  If airlines can use planes more efficiently, presumably landing rights at Wellington would be more valuable than they are at present?  That should be charged for.   And if investing in a runway extension really would markedly lower flight prices for Wellingtonians, surely those of us who fly can be charged for the saving?  Great projects taken to market by the private sector hardly ever see all the gains captured by the promoters/investors. Bill Gates and Steve Jobs got rich from Microsoft and Apple, but the rest of us did even better as a result and by rather more than we paid for the product.

As it is, the Christchurch experience should be a salutary warning to the citizens and ratepayers, especially  those in Wellington.  If the initial comments from government ministers seem mildly encouraging (ie discouraging to WIAL), the track record suggests reason for caution even there (this is the government now amenable to funding the Auckland inner city rail loop, and which has been right behind the Christchurch convention centre).  As for Wellington City Council, the sceptical comments from Greens councillor David Lee notwithstanding, I wonder what will stop these planners pursuing their vision, egged on by the Chamber of Commerce?  What lessons have they taken, for example, from the disaster of  the Dunedin stadium?  I hope that, at very least, no binding commitments are made by the council until after next year’s local body election.

To their credit, WIAL is holding a series of lengthy public sessions in the next couple of weeks at which apparently their experts will be available to answer questions.  If I have time I will try to go along, and if any of my concerns are materially assuaged I might come back to the issue later.

[1] To which my only caveat would be a concern about what even lower-value projects they might use the resulting cash for instead.

These remote islands are different?

Michael Reddell Immigration, New Zealand economic performance

I was having a discussion the other night in the margins of the Goethe Institute event about the extent to which we should think about New Zealand’s economic advantages and opportunities as natural resource based.  I’ve been running a proposition that the only thing really going for us is the land, its attendant resources (fish, wind, geothermal, as well as pasture, forests, and –  at the low value end –  tourism opportunities), and the technologies and management skills that enable us to sustain reasonably good incomes from them.  Those resources can support really good incomes, but I’m sceptical as to how many people they can support such incomes for.

The person I was talking to posed an interesting angle which I hadn’t thought of before.  What if the North Island and South Island disappeared and New Zealand just consisted of Stewart Island (or the Chatham Islands).  What would 4.5 million people do in such a country?

As I’ve thought about it over the last few days, I’ve increasingly concluded that most of them would leave.  The opportunities would be just so much better elsewhere.

4.5 million people on an area the size of Stewart Island or the Chathams isn’t implausible.  Both are bigger than Singapore or Hong Kong –  Stewart Island (1680 sq kms) has more than twice the land area of Singapore (718 sq kms).

My nine year old daughter recently got fascinated by a book on our shelves about remote islands, so we’ve spent quite a bit of time together learning about some small, remote and very obscure places, such as.

Kerguelen                                                                                 7215 sq kms

Falkland Islands                                                                     12173 sq kms

St Helena                                                                                     420 sq kms

Seychelles                                                                                    455 sq kms

Reunion                                                                                       2512 sq kms

Azores                                                                                          2346 sq kms

And less obscure perhaps, but still relatively remote islands

Fiji                                                                                                 18270 sq kms

Hawaii                                                                                            28311 sq kms

Tasmania                                                                                      90758 sq kms

Iceland                                                                                          103001 sq kms

For reference, the South Island has 151,215 square kms of land.

But the total population of all those ten countries and territories is about 4.4 million.  Distance really seems to matter.  It is not that one can’t sustain good incomes in these places, but that not many do. History, revealed preferences, and revealed opportunities seem to have seen to that.

In the Stewart Island thought experiment my interlocutor posed, Stewart Island would be about as remote as the median of my 10 territories above.

Really smart people could choose to live there and with strong pro-market institutions perhaps they could build First World living standards there.  But it wouldn’t be Singapore or Hong Kong, even if it were populated by people from those places.  Geography doesn’t doom a country or territory to poverty, but it can make it a great deal harder.

Nothing in the global distribution of population or economic activity suggests that a Stewart Island New Zealand would have anything like 4.5 million people –  unless some social engineer, defying logic and history, kept shipping people in  (there are always some places poorer).  If, by some chance, 4.5 million people had ended up on Stewart Island, and governments didn’t interfere, I reckon many or most of them would have subsequently left –  to Australia, back to Britain if they could, perhaps even to South America.  The Falklands Islands does now support quite a high level of GDP per capita, for its 3000 people.   But the fishing and hydrocarbons wouldn’t go far across, say, three million.

Of course, New Zealand is not Stewart Island.  Our total land area puts us the middle of the list of countries of the world.  But we are still incredibly remote.  Last bus stop before Antarctica is unfair  (the Falklands and Kerguelen are closer), but not so very far wrong.  It just is not the sort of place, around the globe, that seems to be able to support First World opportunities for many people[1].

Of course, we have some advantages.  A temperate climate appeals as a place to live.  And northern European, specifically British, institutions and the rule of law have enabled people to secure pretty good livings wherever they have settled.  For perhaps 75 years, after all, New Zealanders had some of the very highest material living standards anywhere in the world.  But it was on the back of land-based industries.  And the overwhelming bulk of our exports still are, but with many more people than we once had.

So long as we don’t completely mess things up, New Zealand will never be what Uruguay is today (not much more than half New Zealand’s GDP per capita, the fruit of decades of really bad economic management last century).  But if, as a matter of policy,  New Zealand continues to  drive up its population quite rapidly, Uruguay might even have  better per capita possibilities in the very long run than New Zealand.   The same could probably be said, with even more force, of Romania (similar incomes today to those in Uruguay –  legacy of decades of even worse economic and political management last century).  They are just nearer where the people are. Locations still seem to matter.

New Zealand just isn’t a great place for many people to do terribly well.  Implicitly, New Zealanders have recognised that in the exodus to Australia that has occurred over the last 40 to 50 years.  The conventional wisdom on the right for a long time was that that was just a reflection of our mad policy regimes from the late 1930s onwards (heavy protection etc).  But it looks to have been more than that.  Decades on from the economic reforms, the average net outflow over time remains large (although it ebbs and flow with the Australian labour market), even as it has become more difficult for New Zealanders to make a smooth and secure transition to Australia.

One of my commenters is adamant that New Zealand’s immigration policy is “just” a replacement policy.  He is wrong on that .  (Over the last 15 years there has been an average annual net outflow of New Zealand citizens of around 25000 and an average net inflow of non-citizens of around 40000.  And our official target for residence approvals for non-citizens has been 45000-50000 per annum –  although not all who come stay).

But even if he were correct, there is no “just” about it.  What the government is doing is intervening to stymie a self-correcting mechanism that is going on in the private sector.   New Zealanders have seen, and responded to, the better opportunities (as they judge them) for themselves and their families in Australia.  They are moving to a place that –  with similar institutions –  is proving better able to generate high advanced-country incomes for more people.  What possible reason can the government have for interposing its own judgement, deciding that the resulting population and labour market outcomes are unacceptable, and actively seeking to bring in many more from abroad?

Perhaps as a policy approach it was more understandable in the 1950s and early 1960s.  After all, at that time our relative incomes were still high, and New Zealanders weren’t leaving in any appreciable numbers (the total outflow of New Zealand citizens in the 15 years to 1964 was 8283). And in the population discussion in New Zealand post-war, the idea of building up the population for national security reasons was also present.

But this is 2015 not 1950, and the economic signals have been pretty clear for a long time now –  and the central planners keep on ignoring the message.  Perhaps they believe the opportunities here are great.  But where is the evidence?  Remote places tend not to support very many people, and certainly not at the level of incomes New Zealanders aspire to.  Perhaps that won’t always be the case, but the onus should be on the planners to demonstrate that this island is different.

I’ve occasionally suggested that if “optimum population” meant anything,  New Zealand’s might be two million or 200 million.  With 200 million people, New Zealand would be a very different place, but it seems unlikely that in a world our size 200 million people would ever regard these remote islands as the best place possible to live and generate economic activities with an expectation of advanced country incomes. Peripheries seem, naturally, to be lightly populated places.

(To anticipate comments, I’m not arguing for a “population policy”  –  the idea seems absurd, but that is what we now have de facto –  but for leaving New Zealanders to determine these things for themselves.  In recent decades, the birth rate has been slowing and many New Zealanders see better opportunities abroad (most years), suggesting that their choices would leave us a fairly flat population.  But still one more than ten times that of Iceland –  which has 40 per cent of our land area, and is a great deal closer to prosperous population centres and markets.

[1] Australia faces somewhat similar issues, of course, but just has more natural resources.