Small economies

The Productivity Commission last week released a report done for them by David Skilling on “frontier firms”.  That is the topic of the Commission’s latest inquiry, handed to them by the Minister of Finance.  Personally, I reckon the topic is mis-specified and will tend to drive people to focus on symptoms more than causes, but I’ll come back to that in more detail at some point.

Skilling was formerly Executive Director of the former (somewhat centre-left) New Zealand Institute and these days runs a consultancy, based in the Netherlands, with a focus on small advanced economies.  I’m a bit under the weather today so in this post, I wanted to touch on only two points from his report.

The first was to draw attention to footnote 10

10 The one policy foundation setting that I identify as having had a meaningful impact on New Zealand’s productivity performance and the development of frontier firms is with respect to immigration (or more precisely, the absence of a strategic migration policy).  The substantial net migration inflows that New Zealand has received over the past 25 years has been a strong source of support for headline GDP growth, but has created a series of distortions and pressures in the New Zealand economy: infrastructure and cost pressures, greater residential real estate demand (with implications for allocation of investment capital), downward wage pressure that deters business investment, as well as upward exchange rate pressure.  An explicit immigration policy that was focused on quality and filling skills gaps, with lower gross inflows, would create a more supportive environment for higher levels of international engagement by New Zealand firms (although the transmission mechanism to outcomes is more indirect than those discussed in the body of this paper).

There isn’t much about policy that I agree with Skilling on  –  and find it strange that in a 30 page report with an emphasis on the tradables sector, this is the only mention of the exchange rate –  but, as you can imagine, I agree with much of that.

And the second was about this chart

Forbes 2000

of which he observes

This seems to be the case in small advanced economies also.  One of the striking characteristics of successful small advanced economies is their reliance on large firms, with a disproportionate representation of small economy MNCs in measures such as the Forbes Global 2000 (Exhibit 6).

I wasn’t particularly familiar with this listing, so went and had a look.  But I also had a look at a wider range of countries.  For his paper, Skilling uses the IMF classification of advanced economies, focusing on those with a population under 20 million.   However, that grouping leaves out the central and eastern European countries (the Baltics, Hungary, Czech Republic, Slovakia, Slovenia) that are both OECD and EU members, and which are either catching or already overtaking New Zealand in terms of labour productivity (all but Hungary have had faster productivity growth than New Zealand since, say, 2007 – just prior to the last recession).

I’m not really going to dispute what I take to be one of Skilling’s propositions, that a successful New Zealand would probably see more large and internationally successful firms.   Nonetheless, it is perhaps worth noting a few things:

  • the Forbes listing is of public companies.  That’s fine; it is what it is.  But the implied market capitalisation of Fonterra makes it large enough that were it be tomorrow transformed fully into a listed company, it would almost certainly make the list (five Greek banks, with a combined market cap less than Fonterra make the list).  If anything, Skilling is too kind about Fonterra –  which has woefully underperformed the marketing pitches of 20 years ago –  but big and international it still is,
  • while we are the only advanced country in Skilling’s chart not to have a company in the list, none of the Baltics nor Slovenia nor Slovakia has an entrant either.   The Czech Republic and Hungary (both about twice our population) have one and two  respectively, in the Czech case a power company that appears to have a market capitalisation not much larger than that of Meridien,
  • Iceland and Luxembourg are both small successful advanced countries; the former has no entrants on the Forbes list, and the latter quite a few (more per million than any of the countries shown).
  • Portugal and Greece are not that successful small advanced countries, and both have several entrants on the list.

I guess A2 and Xero are increasingly not New Zealand companies, but appear large enough that they could well have shown up on a listing like this.

There are always going to be pitfalls in any illustrative indicator –  this one simply happened to catch my eye –  but if I agree with Skilling that it makes sense to pay attention to other small advanced economies in trying to make sense of the New Zealand story (and of our constraints and policy options), starting from where we are now, it is probably at least as useful to think about the central and eastern European countries –  and Israel, which does quite well on various of Skilling’s indicators but has productivity very similar to ours –  as the more traditional western European ones.

queen 4

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21 thoughts on “Small economies

  1. It is interesting that so many of these reports seem to take into account geographical position. All the countries in his chart are fairly close to very large populations. Unlike NZ, which must be the most isolated developed country in the world.

    As an aside, why do we need a Productivity Commission if they just contract out their research. Seems an unnecessary and costly middle man.

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  2. Skilling does note, but does not dwell on, the distance point. Strangely, he cites Israel as a country that has overcome distance obstacles, altho its productivity numbers tell a different story.

    I don’t have too much problem with the Productivity Commission contracting in research. The PC only has 20 people in total, and they are assigned a v wide range of topics, for which it wouldn’t be reasonable to expect them to have all the expertise in-house.

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  3. Thanks for digging a little more deeply into some of the charts and claims in the Skilling paper. I thought it was a useful opinion piece, and I liked the emphasis on the tradables sector, but I didn’t think much weight could be put on its claims and policy ideas, as it lacked references to robust empirical evidence.

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  4. Skilling at least identifies in a coherent fashion what might be a successful approach particularly with a left leaning govt that has shown no evidence of a plan to date. Nationals Policy of not picking winners and spreading pixel dust thinly to allow private sector entrepreneurs to do their best has not worked for the last 30 years. I was disappointed to see Goldsmith retain the Finance portfolio for that reason. Poverty and productivity should be tackled head on with all the resources we can muster. One is a disgrace and the other is an embarrassment.

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  5. The productivity paradox is driving all of this… the focus on labour rather than capital is down to price (lots of immigrants) and a high cost of capital driven by an over priced real exchange rate. This means that capital investment (fixed capital formation) is lower than other comparable countries and the related lower than par investment in R&D.

    Xero and A2 in effect left New Zealand because they could get a higher value for their shares and return for their investors by being domiciled in Australia… It makes it easier for Aust super managers to invest in these companies – its long been recognised that the valuation of NZ listed companies is lower than Australian listed companies so why bother with the NZX?

    Further, NZX and its soul mate the FMA have hardly showered themselves in glory getting companies to list and raise capital in NZ over the past few years… the odd port, maybe a property fund, a cannabis company… its about as vibrant as a nightclub at 9am on a Monday morning…

    Someone noted to me that entrepreneurs have businesses to generate cashflow (dividends etc) which enables them to invest in property where they see the real wealth lying… I can’t totally disagree with this sentiment and maybe thats the problem… the excess return on capital (or economic value added) is not high enough to jsutify the risk… so buy property and get more certain but lower returns…

    All a bit depressing really….

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    • Think of property and shares on the NZX as inventory. Property works on the principle of LIFO valuations and shares on the NZX or any other exchange on FIFO valuation.

      LIFO. Unsold inventory revalues based on the last purchase price.
      FIFO. Unsold inventory is valued at the purchase price.

      I relied on a job to generate cashflow to buy residential property. For most of us this is how it works. From the equity of my own home I leveraged to buy investment property. I chose residential investment property. Now with a portfolio worth $9 million and 25% debt, I have started to diversify starting initially with Kiwisaver and now directly in the NZX drawing down on my unused overdraft facilities secured over residential property.

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      • That inventory Valuation analogy did not really make too much sense. Perhaps a demand versus supply analogy is more correct. Issue of shares is unlimited and building of houses and land availability is limited.

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      • GGS… yeah… was struggling with that a bit…. wouldn’t say that the supply of shares is unlimited because the value of shares is based on a PV of future cashflows – so the number of shares as a limiting facto does not make much sense…

        On the property side, it depends on what you are prepared to accept… you ‘create’ land by increasing the number of storeys and height… there is a technical limit… also by repurposing land to residential to other purposes such as Wynyard Quarter in Auckland (and may other places around the world)…

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  6. Michael, I was wondering what you think of Boris Johnson’s idea to offer 3.5 million Hong Kongers access to the UK.. I notice David Farrar is keen on the idea of NZ taking some (“As you know I am very keen on immigration”) and 90% of his commentors.
    https://www.kiwiblog.co.nz/2020/06/boris_ups_the_ante_with_china.html

    There’s a good discussion here between Eric Kaufmann and Anne Applebaum on “populism”. Eric Kaufmann uses data to show that as immigration levels rise at the national level so populism rises (comes from within the population) whereas Anne Applebaum alleges the media stir feelings up. Benedict Anderson’s theory of nation is an “imagined community” therefore the people who constitute the nation (a social grouping – “us”) are unsettled that “they” are displacing “us” (considered backward behaviour – and bad for business)
    https://faithangle.org/session/national-populism/

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    • I admire Johnson’s willingness to do this – and I say that as someone who is not generally a fan. As for whether NZ and other countries should join in, I’m ambivalent. HK isn’t our responsibility in the way that it was the UK’s, but I would have no particular objection if HK people with BNO passports were prioritised within our existing residence targets for a couple of years.

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    • The question is – is Johnson serious or is he flying a kite?

      The rednecks on Farrar’s web-site support brinnging them into NZ because they are hard-working, financially astute, wealthy etc. The news for NZ is the forward-thinking HK’s are already here. They got out and came to NZ in 1997,1998,1999. An acquaintance who lived in Melrose Rd, Mt Roskill was harrassed frequently by HK’ers unsolicitedly knocking on their door wanting to buy their house and offering suitcase-loads full of cash

      If you want to bring in plane-loads of Hong Kong residents – fine – just so long as they are forced to settle in Wellington, preferrably in Farrar’s home suburb. Wellington where they can’t build a Kapiti Coast Highway without it breaking up, or a Tranmission Gully Highway after 6 years, and they can’t maintain their sewers even though ratepayers have been paying for the maintainence, they build a tunnel under Mt Victoria

      Don’t dump them into Auckland where, after 60 years they still cant fix the sewage pouring into the harbours, and they haven’t got the water-supply to support the existing population. And it took them 6 years to finish constructing the Lincoln interchange on the North-Western highway

      How many did you want?

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      • I am thinking the Auckland housing market is buoyant and rising due to HK Capital flight to Auckland. Tens of thousands of HK people gained NZ residency prior to the HK transfer to China, most of them left after a few years in NZ. I think they and their funds are coming back. That permanent NZ residency visa never expires once it is issued. Many would have converted to NZ citizens contributing to the 1 million New Zealanders that live outside of NZ.

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  7. Define “frontier company”
    How many are there in NZ
    Can anyone name them – would relly like to know

    I’ve been engaged in business including MNC for many years and never heard of it before

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      • Also the tech and health companies, Bliss Technologies in probiotics, Vista in movies, Plexure in app mobile advertising, payment systems, Fisher & Paykell healthcare etc.

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      • Michael P, Rocket lab started as a NZ company with a start up research grant of $90,000 from the NZ government. The original IP was developed in NZ and was funded by initially the Stephen Tindall Trust

        “Rocket Lab was founded in 2006 by Peter Beck (now 40), who grew up in Invercargill. Beck never went to university. He got a tool-making apprenticeship at Fisher & Paykel before getting a job at Crown agency Industrial Research Ltd (IRL, now subsumed into Callaghan Innovation’s scientific research wing).

        At IRL, Beck was involved in precision engineering projects, including work on aspects of high-temperature superconductor manufacture. It was also at IRL’s Parnell, Auckland office that he first met NBR Rich Lister Stephen Tindall, whose K1W1 fund backs so many local startups. Sir Stephen would become one of Rocket Lab’s first investors.”

        https://www.nbr.co.nz/article/10-things-about-rocket-lab-ck-203485

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      • running on decades old research as well as indirect government largess still doesn’t make you a “frontier”. and let’s not forget that $2.9 million they took in the wage subsidies. there are much better companies on the “frontier”

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      • I would have thought Space is frontier as far as NZ andmost countries are concerned since we have not set foot on the trillions of planets yet to be explored or launched rockets previously. Anyway not sure why you are dead against Rocketlab. It is clearly NZ IP sold to US interests. Even Australians drools over the fact that we have rocket launching capability in NZ.

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