Is there a plausible economic strategy?

In the new government, sworn in this morning, David Parker will take up the renamed role of Minister for Trade and Export Growth.

Early in their term of office, the outgoing government adopted a numerical target for lifting exports (as a share of GDP).  It was, no doubt, well-intentioned, but has provided the basis for quite a few posts here pointing out that no progress was actually being made towards that target, if anything trade shares of GDP were falling, and the pre-election advice from The Treasury was that, all else equal, the trade shares would continue to shrink.  The focus on exports, in turn, seemed to prompt a willingness to use actual or implicit subsidies –  be it in the film industry, export education, irrigation, convention centres, or firms like Rocket Lab –  or unpriced externalities (eg around water) rather than focusing on the fundamentals in a way that might have seen firms themselves increasing taking up new foreign trade oppportunities, responding to improvements in opportunities, markets and incomes.

I stress “foreign trade” rather than just “exports”.   We don’t want policy to be guided by some sort of mercantilist vision in which the purpose of economic life is to sell us much as we can to others, only to store up treasure at home.   Firms export because they can, and because doing so enables owners and employees to earn incomes, which enable them to consume (including from among the abundance the wider world has to offer).  Successful firms invest more heavily too, and many of the investment goods will typically be sourced from abroad.    Trade is good, and generally mutually beneficial.  Ideally, we would see quite a bit more of it: New Zealand firms successfully competing in wider world markets, enabling them and us to purchase more of stuff firms in other countries specialise in producing.    And if New Zealand is ever to catch up again with the rest of the OECD –  whether in productivity or incomes – the process of getting there is likely to involve a materially larger share of local production being exported but –  especially in the transition (which could last decades) –  a lot more investment.  Current account deficits aren’t even problematic when they rest on firm foundations of rising productivity and market-led business investment.  It was the story of 19th century New Zealand (or Australia or the United States).  It was the story of emerging Singapore and South Korea.

So I really hope that the new Minister of Trade and Export Growth (who is also the Minister for Economic Development) sees his role as being at least as much about putting in place the pre-conditions for sustained stronger import growth, as about export growth.  In successful economies, the two go hand in hand.

Here is how we’ve been doing over the 45 years for which we have official data.

trade shares

The last few years’ data are still open for revision, but there is no credible prospect that trade shares of GDP will have been rising.

In interpreting the graph it is worth noting a few things.  The first is that the peaks in the 1985, 2001, and 2009 years simply relate to unexpectedly weak exchange rates.  Most of our imports and exports are priced in foreign currency terms, so when the exchange rate falls sharply there is an immediate translation effects –  both imports and exports rise in NZD terms, even if the volumes haven’t changed at all.   In each of those three cases –  the 1984 devaluation, the slump in the NZD (and AUD) at the end of the dot-com boom, and the sharp fall in the 2008/09 recession –  the exchange rate falls were pretty shortlived.

The second is to note that external trade as a share of GDP was trending up for some time.  The economic policies New Zealand adopted after 1938 had tended to reduce our external trade.  There was a focus on increasing local manufacturing to supply domestic markets in consumer goods (directly reducing imports), and the increased costs of that domestic protectionism undermined the competitiveness of our (actual and potential) export producers (thus, shrinking exports as a share of GDP).

But in the 1970s and early 1980s there were signs of progress, lifting both export and import shares of GDP, even though the terms of trade for New Zealand were pretty dreadful during that period.  There will have been a mix of factors at work: the real exchange rate was trending lower, import protection was being reduced and, less encouragingly, there was a substantial use of export subsidies, both for non-traditional exports and (latterly) support for farmers too.  One argument made at the time for that export support was to counter the adverse competitiveness effects of import protection.  Better, of course, to remove both sets of interventions.  And that is largely what happened over the following decade.    Trade shares of GDP didn’t fall back.

It is perhaps tempting to look at the chart and conclude that taking the last few decades together there is quite a lot of variability in the series, and overall nothing very much has changed since at least the early 1980s.  That’s largely true, but it is also largely the problem.  Successful economies have typically experienced quite material increases in their foreign trade shares (imports and exports) in recent decades.  New Zealand hasn’t.  New Zealand –  or foreign – firms simply haven’t found the profitable opportunities here to take advantage of.    Even services exports are now only around the same share of GDP that they first reached in 1995.   Amazingly (I hadn’t previously looked at this number), services imports as a share of GDP have been lower in the last year than at any time in the past thirty years.

services trade

Not exactly a picture of a successfully internationalising economy.

I don’t find these outcomes –  worrying as they should be, as symptoms of our economic failure –  that surprising.  It is very difficult for firms to compete successfully internationally from such a remote location, based on anything other than location-specific natural resources.  Not impossible, but very difficult.  And so it shouldn’t surprise us that there aren’t many of them.   For whatever reason, in the global economy personal connections on the one hand and integrated value/supply chains on the other have become increasingly important.  The last bus stop before Antarctica –  a long way even from the next to last bus stop – just isn’t a propitious place, no matter how skilled New Zealand workers might be, and how innovative and entrepreneurial New Zealand firms might be.

It is also difficult to successfully compete internationally from here when (a) real interest rates and, in turn, the real cost of capital, for New Zealand investors have averaged so much higher than those in the rest of the advanced world.  Those real interest rate gaps have shown no sign at all of closing  (and they have little or nothing to do with monetary policy).  People push back sometimes arguing that interest rates can’t make that much difference.   They do, through two channels.  First, the standard approach to identifying an appropriate discount rate for project evaluation starts from a risk-free interest rates.  Ours are, and consistently have been, well above those in other advanced countries (something like a 150 basis point margin is a reasonable approximation of the average difference).  And, second, high real interest rates here have been accompanied, causally, by a persistently high real exchange rate, out of line with our deteriorating relative productivity.   In combination, that mix makes investment here harder to justify, and particularly makes investment in the tradables sector harder to justify.  Combine that with the disadvantages of distance and it is no real surprise the foreign trade shares of GDP haven’t increased.  Successful economies have an abundance of new profitable opportunities in which their firms, or foreign firms investing there, take on the world.  It has happened to only a very limited extent here.

But what concerns me is that the new government appears, at this stage, to have no more of a strategy than the outgoing government did for turning around the dismal productivity performance, or the static (or shrinking) foreign trade shares.      There have been encouraging hints of a recognition of the issue: in her speech to the CTU yesterday, the incoming Prime Minister referred both to a need to “boost our productivity”  and to the need to gear the economy more towards “value-added exports”.     But it isn’t clear that they have any real idea of how to get from here to there.   There was nothing any more encouraging in James Shaw’s speech to the same audience.   Or looking through the areas prioritised in the agreements Labour has signed with New Zealand First and the Greens.   If anything, the risk looks to be that the tradables sector will shrink further.

  • The new government plans to adopt measures that will reduce the size of the export education sector.  To the extent that involves a removal of implicit subsidies I think (as I noted yesterday) that is a step in the right direction.
  • The new government plans to phase out government subsidies for irrigation schemes.  From what I’ve seen, that is welcome too.
  • The new government is clearly heading in the direction of reducing exploration for oil and gas in New Zealand and its territorial waters.
  • The new government is clearly intending to take a more aggressive stance around emissions reductions, including moving towards the inclusion of agriculture in the ETS.
  • The new government seems likely to move more aggressively on increasing water quality standards faster,
  • And the new government is planning to increase minimum wages –  already high, by international standards, relative to median wages –  quite considerably over the next few years.
  • The new government is planning (or hoping for) a major acceleration in housebuilding activity.

You might agree or disagree with some or all of those measures individually. But every single one will put the tradables sector under more pressure, to some extent or other.

Take minimum wages for instance.  I recommend you read Eric Crampton’s piece (which I largely agree with).   Here is the Prime Minister’s take.

I know most businesses want a fair set of employment policies.  They know that we need decent wages if they are going to have customers for their products. They know that we need to boost our productivity, and low wages are a barrier to that because they discourage investment in training and capital. They know that we need a government that invests in skills and education.

I simply don’t buy into baseless claims that paying people well means there will be fewer jobs. In fact, the overwhelming weight of evidence is that strong wages for all working people help to boost growth and create jobs.

Wishful thinking at best.  We all, I imagine, want a country in which strong economic performance and strong wage growth goes hand in hand, but there is little or no credible evidence that, at an economywide level, one can get that sort of lift in performance by, say, mandating higher minimum wages.  It is putting the cart before the horse.  And if it worked anywhere, surely New Zealand should be the prime example, given that we already have high minimum wages relative to median wages (a policy maintained and extended by the previous National government).

And here is Shaw

And our whole intent will be to flip climate policy from being seen as a threat and a cost, to being seen as an opportunity and an investment in the future.

And, as I say, that means we’ll be creating tens-of-thousands of new jobs, paying decent wages, for workers and families all over New Zealand.

Not just high-tech city jobs, but out in the regions as well.

Here’s one example: trees.

We are going to plant hundreds of millions of trees to soak up New Zealand’s greenhouse gas emissions.

These trees, we’re going to plant them in the cities. We’re going to plant them in the towns. We’re going to plant them in in the National Parks. We’re going to plant them in the regions.

That’s going to be tens of thousands of jobs. That means lower unemployment. Lower poverty. Lower crime. Cleaner rivers. More native species.

It would be worth doing even if we weren’t saving the world.

One pictures the seas parting and New Zealanders walking together across the Red Sea to the promised land.

Whatever the merits of mass tree-planting –  which until now firms have not regarded as economic –  it doesn’t exactly seem like a high productivity industry.    And in the short-term (trees take decades to come to maturity) resources that are used planting trees can’t be used for anything else.

Lower unemployment is a worthwhile goal, and I really liked the new PM’s line

we have unemployment stuck stubbornly at 5% when it should be below 4%

but (a) deviations of unemployment from long-term sustainable levels are mostly a matter of monetary policy (so find the right Governor/commitee, and specify the mandate well) and (b) however many trees you plant, higher minimum wages will almost certainly come at some cost –  perhaps not that large –  in higher long-term sustainable unemployment rates.    And for all the complacency there has been in New Zealand about our unemployment rate, when I checked there were already 12 OECD countries with unemployment rates lower than New Zealand.  We simply should be doing better.

Of course, the usual economist’s response when (eg) proposing stripping away subsidies is “the market will provide”.  For example, a lower real exchange rate will allow some firms to expand, and other firms not yet visible to economists to emerge.  But how likely is it that that provides the answer this time?

Of course, the exchange rate has fallen perhaps 3 per cent in the last few weeks since the election (against the AUD, the best guide to idiosnycratic New Zealand effects).  It isn’t a large move, and may not be sustained.  And even at these levels isn’t outside the range it has fluctuated within over recent years.     Between a somewhat more expansionary fiscal policy (than the previous government was running), the aspiration to a big increase in housebuilding, and a continuation of the high target rate of immigration, it is difficult to see why we should expect any near-term material narrowing in the margin between New Zealand interest rates and those in the rest of the world.

Thirty years ago, Grant Spencer –  then Reserve Bank chief economist, now “acting Governor” –  published a book chapter in which he described pre-1984 New Zealand economic management this way

“In particular, the maintenance of high levels of aggregate demand supported a buoyant non-tradables goods sector while exporters faced more depressed market prospects”

When I re-read that chapter last week, it was hauntingly reminiscent of the last few years.  But it isn’t clear why the next few will be any better, unless there is sort of near-term cyclical downturn Winston Peters was warning about last week.  As I’ve highlighted previously, in real per capita terms, the tradable sector of our economy is now no larger than it was 2000 – two whole governments ago.  The risk, at present, is of further shrinkage.

So I do hope that the new Minister of Finance and Minister of Economic Development (and Trade and Export Growth) are turning their minds pretty quickly to how they might achieve the sort of reorientation in the economy that is generally recognised as needed, and which they – and the Prime Minister –  have themselves highlighted as a matter of concern.  (And, hint, regional development funds aren’t likely to be the answer either.   And over the last 15 years, “the regions” have been doing better than “the cities”)

 

(On matters of the new government, I was interested to see Andrew Little, new Minister of Justice, observe – on Twitter and Facebook – yesterday that “As Minister of Justice-designate I want to state from that outset that “pretty legal” is no longer the standard this country operates to!”.     Admirable sentiments, and I have no idea what specifics he had in mind [oh –  Steven Joyce no doubt], but might I suggest that he and the Minister of Finance review how we came to have a pretty clearly unlawful appointment of a Reserve Bank “acting Governor” by the outgoing Minister of Finance. )

The tech sector…and ongoing economic underperformance

The 13th annual TIN (“Technology Investment Network”) report was released a couple of days ago.  I’ve largely managed to ignore the previous twelve –  breathless hype and all –  but for some reason I got interested yesterday, and started digging around in the material that was accessible to the public (despite lots of taxpayer subsidies the full report is expensive) and then in some of the New Zealand economic data.   Perhaps it was the seeming disconnect between the rhetoric from the sector, and its public sector backers, and the reality of an economy that has had no productivity growth at all for five years, and where exports as a share of GDP have been falling (and are projected by The Treasury to keep on falling).

The centrepiece of the report is an analysis of “New Zealand’s top 200 technology companies” (by revenue) where, as far I can tell, “New Zealand’s” here means something about the base of the company being in New Zealand, whether it is owned here or not.  I’m not quite sure either what the definition of a “technology” company is, and it is worth remembering that almost every type of economic activity uses technology in ways that were inconceivable even 50 years ago.  Often new technologies are developed and adopted inside companies that wouldn’t think of themselves primarily as “technology companies”.   No one doubts the important pervasive role that technology plays, in New Zealand and in any moderately-advanced economy.   But the TIN Report appears to focus on a pretty broadly-defined group of companies in biotech, ICT, and (more than half) in “high-tech manufacturing”.

Here are the top 10 companies from the list

Date founded Total revenue ($m)
Datacom 1965 1157
Fisher & Paykel Appliances 1934 1146
Fisher & Paykel Healthcare 1934 894
Xero 2006 295
Gallagher Group ca. 1938 232
Orion Health 1993 199
Douglas Pharmceuticals 1967 190
Tait Communications 1969 175
NDA Group 1894 175
Temperzone 1956 175

Perhaps most immediately striking was the gap between the first three companies on the list and the rest of them.   But I also realised that I’d visited quite a few of these companies (the Reserve Bank’s business visits programme), in some cases a long time ago.  Tait was one of the good news stories we used to tell in the 1980s –  economic times were tough, and we had a selection of (sometimes rather desperate) anecdotes of economic transformation.  So I dug out –  as best I could –  the dates each of these firms was founded.    Of the top 10, as many (one each) had been founded in the 19th century as in the 21st century, and only one more had been founded in the last three decades of the 20th century, even as the New Zealand economy was being liberalised.      It isn’t exactly the image one has of really top-tier technology companies.  Sure IBM and Hewlett-Packard have been round for a while now, but Google, Facebook, and Amazon all date from the last 25 years  –  and they’ve managed to dominate world markets, not just been big in New Zealand.

Actually, a somewhat similar point even found its way into the TIN press release

Companies with over $20 million revenue grew at twice the rate of companies below NZ$20 million.  The 90 companies with revenues NZ$20 million and over grew at 8.4%, compared to just 3.8% revenue growth for the 110 companies with under $20 million in revenue.

Nominal GDP in New Zealand grew by 5.9 per cent in the year to June, and yet the second tier of New Zealand based technology companies could only manage sales growth of 3.8 per cent in the last year (and even that number is subject to a form of survivor bias –  some firms that did worse will have dropped out of the list).  I was, frankly, astonished at quite how weak the revenue growth seemed to have been.

The headline TIN were keen to highlight was that the annual worldwide sales of the TIN 200 companies had now passed $10 billion (just a bit more than Foodstuffs supermarkets).   $10 billion isn’t a trivial sum of course, but New Zealand GDP last year was $268 billion dollars (and gross sales are higher than GDP) –  so worldwide sales of these 200 companies were just under 4 per cent of New Zealand’s GDP.    They were also keen to highlight 43000 people employed around the world.  Again, not a small number but just over 2.5 million people are employed in New Zealand at present.    In many of these companies, overseas employment –  an important part of making the businesses successful –  is quite a large share of the total.  For many of the companies, data aren’t easily accessible, but from Fisher and Paykel Healthcare’s latest annual report I learned that of its 4100 employees, 1800 are overseas.

Writing of the $10 billion revenue number, the TIN Managing Director noted

It is not just a number but a marker that indicates that our technology exporters are well and truly entrenched as a critical part of New Zealand’s economic growth

Perhaps he isn’t aware that there has been no productivity growth for five years?

But what of “exports”?  We are told that these 200 firms have “more than NZ$7.3 billion sourced through exports”.   They carefully describe that in their headline as “the equivalent of 10 per cent of all New Zealand’s exports”, but some media rather loosely translated this into a story that these tech companies now account of 10 per cent of New Zealand’s exports.

Without access to the full report, it is difficult to know quite how they calculate the number.  But almost certainly, a lot of that $7.3 billion –  perhaps total overseas sales –  will in fact be counted as other countries’ exports.  Chinese-owned Fisher & Paykel Appliances, for examples, manufactures in Thailand, Mexico, China and Italy.    Fisher and Paykel Healthcare manufactures in Mexico, and presumably most of that production goes to the United States.   And if, say, Datacom has big operations in Australia, much of the value-added from that operation will accrue to Australian employees.

I don’t have a problem with any of that.  It is how successful international businesses work.  In most cases, the relevant intellectual property is probably being generated in New Zealand, and the value of that should be captured by those doing the work, and the owners of the relevant businesses (in many, perhaps most, cases, New Zealanders).

But how does all this fit with the overall economic performance story.  One of the public sector funders of the TIN report was quoted in a Newsroom story yesterday

Victoria Crone, chief executive of one of the sponsors of the report, Callaghan Innovation, said technology was a key for growth in New Zealand’s economy. “Every dollar invested in the tech sector creates three dollars of growth in the New Zealand economy. Doubling or tripling the contribution of dairy or tourism by simply expanding these sectors is simply not practical given their respective demands on land, water and infrastructure.

“By contrast all the tech sector needs to expand is more brains, more ideas and more capital to bring them to market.”

Which might all sounds fine, but how have those tech sectors actually been doing?  Getting too deeply into the line items of our export data isn’t really my thing but (for example) SNZ publish a summary breakdown of merchandise exports, with a category of “elaborately-transformed manufactures” (not all of which would typically be thought of as anything like “technology exports”).    Here is how elaborately-transformed manufactures on the one hand, and primary products on the other, have done as shares of total merchandise exports, going back to 2003  (just before the first TIN Report was published).

share of merch exports

And over that period, total merchandise exports have fallen from 21.4 per cent of GDP to 18.6 per cent of GDP.

What about services exports –  the weightless economy and all that?

Again, it is a challenge to break out the things that most people will think of as “technology exports”, so I’ve erred on the side of including more items rather than less.   There is greater detail for the last few years, but to go back further the data are less disaggregated.    From the annual services exports data I summed four categories

Services; Exports; Charges for the use of intellectual property nei
Services; Exports; Telecommunications, computer, and information services
Services; Exports; Other business services
Services; Exports; Personal, cultural, and recreational services

The latter because the largest component of it appears to be film and TV exports (Weta workshops, Peter Jackson etc).

These components of services exports are, as one would perhaps hope, a larger share of total services exports than was the case 15 or 20 years ago.    Unfortunately –  and unusually for advanced economies –  services exports in total have not been growing as a share of GDP.    This chart shows these four components of services exports as a share of GDP.

tech services exports

It looks quite sensitive to the exchange rate (as one might expect), but whatever the reason the share in the most recent year is still around where it was in 2000 or 2001.  Even with, for example, those amped-up film subsidies.

Still on the trail of (overall) success stories, I thought I’d check out the investment income account of the balance of payments.  New Zealand shareholders will still be better off –  as I noted earlier –  even if there aren’t exports directly from New Zealand if their offshore operations are generating profits.  Whether those profits are remitted to New Zealand or reinvested in the business abroad, it is a gain for New Zealanders (and captured in the Gross National Income numbers, although not in GDP –  the latter is about production in New Zealand).   The published data in the investment income account isn’t broken down by economic sector, but there is data on different types of income.    I focused on two columns

Primary Income; Inv. income; NZ inv. abroad; Direct inv.; Income on equity etc; Dividends and distributed branch profits
Primary Income; Inv. income; NZ inv. abroad; Direct inv.; Income on equity etc; Reinvested earnings

Unfortunately, the data are patchy to say the least so I can’t show a time series chart.  And bear in mind that these profits are from direct overseas investment by New Zealand firms in all economic sectors.    But here are the total returns under these two headings for the five years to 2000 and for the last five years, both expressed as a percentage of GDP (over those five year periods).

profits on NZ inv abroad

Remember that these are profits from firms in all sectors, but if there are big transformative tech sector profits they must be pretty well hidden.

When, many years ago now, I read Brian Easton’s economic history of New Zealand since World War Two, one of the things I noted then was the evidence Easton had gathered for how the composition of New Zealand’s exports had changed rapidly in the past.

Back in the 1960s, in the Official Yearbook Statistics New Zealand reported a high-level table of the composition of our exports.  The traditional products were these

Meat
Dairy
Wool
Fruit and vegetables
Animal by-products

In 1962, these products made up 85 per cent of (estimated) total goods and services exports.  Just a decade later in 1972, those same products made up only 67 per cent of total goods and services exports.  Subsidies probably played a part –  counteracting the additional cost imposed by our own tariffs and import quotas.  Then again, film subsidies (or Rocket Lab subsidies) anyone?

In earlier decades, new technology  –  it was all technology that made it possible –  meant that dairy products went from being only for the domestic market to being our second largest exports in 30 years.

By contrast, the performance of today’s New Zealand based tech sector seems pretty distinctly underwhelming.  I’m sure there are plenty of good firms, and plenty of able people trying to build them –  New Zealand isn’t short of able people, or of a regulatory environment that makes it easy to start new businesses –  but in aggregate the results should really be seen as rather disappointing.  Vic Crone talks of how, in her view, “all the tech sector needs is more brains, more ideas, and more capital to bring them to market”.    New Zealand has never had a problem with any of those three.  It looks rather more as though the opportunities just aren’t here – in a location so remote –  to any great extent, and the challenges of remoteness are just compounded by a real exchange rate that has got persistently out of line with the deteriorating relative competitiveness of the New Zealand economy.

The taxpayer –  through Callaghan and NZTE – has been helping pay for this report, and the associated puff pieces made available to the public.  One can only hope that a new government (of whatever stripe) might start by asking some hard questions, of those agencies and of MBIE and Treasury, that look behind the hype.  I’m not optimistic –  all sides seem to have a stronger interest in believing the spin than in confronting the real and persistent underperformance.  Then again, the good thing about being a pessimist is that just occasionally one can be pleasantly surprised.

 

 

Exporting to a large communist state

One of the things that seems to worry establishment people in New Zealand is a belief that our economy is somehow very vulnerable to anything that disrupts the trade of New Zealand firms with China.  It is a more-than-slightly puzzling concern, since only around 20 per cent of our exports go to China, and exports themselves aren’t an overly large share of GDP in New Zealand.   For the firms involved –  even if not the wider economy –  there are clearly somewhat greater risks, since China has a demonstrated track record of being willing to use targeted trade sanctions for “punishment”.   Those are the risks you take, as a private company, when you choose to play in that particular sandpit.

For the world economy, of course, any serious dislocation of China’s economy is a significant risk.  With interest rates in most of the world not much above zero, any serious downturn in one of the world’s two largest economies could be quite problematic (as the US recession/financial crisis in 2008/09 was).      But such downturns generally do even more damage to the economy at the centre of the problems than to everyone else.  We all have a stake in a better-managed Chinese economy, even if the Chinese authorities are showing increasingly autarckic tendencies, and even if China isn’t anywhere near as internationally connected as the major Western economies are.  But that interest isn’t a good reason to orient foreign policy around deference to China, or to refuse to have an open debate about Chinese government interference in the domestic affairs of other countries.

One case study that sometimes get mentioned when people talk about the vulnerabilities of trade with China is Finland.   After a rather difficult time in World War Two –  gallantly losing to the Soviet Union in 1939/40, and then ending up on Germany’s side –  Finland spent the post-war decades in an awkward position.  A new word was added to the international vocabulary: Finlandization

the process by which one powerful country makes a smaller neighboring country abide by the former’s foreign policy rules, while allowing it to keep its nominal independence and its own political system.  The term literally means “to become like Finland” referring to the influence of the Soviet Union on Finland’s policies during the Cold War.

And largely, no doubt, just because of geography, much of Finland’s foreign trade was with the Soviet Union during those decades (it was a highly managed and regulated trade).  Eyeballing a long-term chart, over the post-war decades to 1990 around 20 per cent of Finland’s exports were to the Soviet Union. And in the 1970s and 1980s, total exports as a share of GDP averaged just over 25 per cent in Finland.   In other words, exports to the Soviet Union were averaging about 5 per cent of Finland’s GDP, pretty similar to New Zealand exports to China today.  (A century ago, by contrast, New Zealand exports to the United Kingdom in the 1920s were 20-25 per cent of our GDP.)

The Soviet Union ended messily, at least in economic terms.   Here is a chart, using Maddison data, of real per capita GDP in the (once and former) Soviet Union.

USSR GDP

In the slump, and associated disarray, imports plummeted, including those from Finland. In fact, in 1992 Finnish exports to Russia (the largest chunk of the former Soviet Union) were less than 1 per cent of Finnish GDP.

At the time, Finland itself was going through one of more wrenching recessions seen until then in post-war advanced economies.  The unemployment rate rose from 3 per cent to over 17 per cent in just three years, and real per capita GDP fell by 11 per cent from 1990 to 1993.

The collapse of the Soviet Union wasn’t the only thing going on at the time.  There were recessions in many western economies (including New Zealand and Australia) around 1991, but Finland’s experience was particularly savage (and also worse than the experiences around the same time of other Nordic countries).

One distinctive was house prices.

finland real house prices

Real house prices rose by about two thirds (across the country) in just a couple of years, and then more than fully reversed the increase.  The 50 per cent fall in real house prices involved a very sharp fall in nominal house prices, only matched in recent times in Ireland.

To some New Zealand readers it will all seem like just the sort of stuff they worry about.  Isn’t our economy heavily dependent on trade with China, which could easily but cut off or otherwise implode, and aren’t house prices extraordinarily high?  Isn’t the great Finnish recession exactly the sort of thing Graeme Wheeler and the Reserve Bank were warning of?

No doubt there are some similarities in what they were warning about.  But if Finland offers lessons for us, they aren’t about who our firms trade with, nor even really about house prices and housing lending exposures.  Instead, they are the (now) age-old lesson about the risks of severely overvalued exchange rates, with an overlay of a warning about the transitional risks of financial liberalisation (readers will recall that New Zealand and Australia also had a tough time in that transition in the late 1980s).

Finland had had quite high inflation even by the standards of many other European countries during the great inflation of the 1970s.    Persistently high inflation, in a fixed exchange rate system, is typically accompanied by a succession of devaluations.  We went through almost 20 years of something similar in New Zealand.   But in Finland in the 1980s they decided to break the cycle, and set out to maintain a “hard markka” –  the fixed exchange rate holding down imported inflation and, supposedly, imposing domestic disciplines that would lower domestically-sourced inflation.    Much of the advanced world was disinflating at the same time, and so for a while the approach looked pretty successful.  Core inflation was 12 per cent in 1980, and not much above 3 per cent by 1986.

But the Nordic economies, including Finland, were also liberalising their domestic financial systems in the 1980s.  And a necessary corollary of a fixed exchange rate system is that, with an open capital accounts, your country’s interest rates are heavily influenced by those abroad.   And German interest rates, which had been 7.5 per cent in 1980, just kept on falling –  the Bundesbank’s discount rate was 2.5 per cent by 1988.

In process –  fixed exchange rate, falling global interest rates – what followed was a massive speculative credit and investment boom in Finland. Lending and asset prices surged.  Inflation picked up, and Finnish industry became increasingly uncompetitive internationally.  That in turn created doubts about the stability of the exchange rate peg, prompting increases in domestic interest rates.

Here is what happened to the real exchange rate

fin rer

And a measure of real short-term interest rates

fin int rates

Real interest rates didn’t peak until well into 1992, two years after the recession began.  Why? Not because inflation was a particular problem –  it was back down to not much above 3 per cent in 1992 and falling fast –  but because of the extreme reluctance of the authorities to float the exchange rate.   There had been grudging periodic adjustments under pressure, but it wasn’t until September 1992 that the markka was finally allowed to float.

In the process –  the boom over the late 80s and the subsequent bust, both heavily linked to the fixed exchange rate  –  the Finns managed to bring on themselves a very severe domestic financial crisis.   And there had been huge shifts in the shares of various components of the economy.  Here was the export share of GDP.

exports finland

Investment as a share of GDP fell from around 30 per cent at the end of the boom, to around 19 per cent at the trough.

Floating exchange rates can be messy, but unless you economy is very closely aligned to –  and integrated with –  the currency of some other country, they are usually better than the alternative.  That was certainly Finland’s experience over the crisis of the early 1990s.

And what of the financial crisis?  Surely with house prices falling by that much, residential mortage losses must have been a big part of the story?  In fact, the overwhelming bulk of the problem loans were to businesses and although many residential borrowers did get into trouble –  rapid increases in unemployment and rising real interest rates in combination can be a toxic brew –   in the end only 1 per cent of household loans were written off.   That isn’t particularly surprising, is a point made in numerous studies, and is consistent with a survey of financial crises done a few years ago by the Norwegian central bank.  As they put it

We look at a wide range of national and international crises to identify banks’ exposures to losses during banking crises. We find that banks generally sustain greater losses on corporate loans than on household loans. Even after sharp falls in house prices, losses on household loans were often moderate. The most prominent exception is the losses incurred in US banks during the 2008 financial crisis . In most of the crises we study, the main cause of bank losses appears to have been propertyrelated corporate lending, particularly commercial property loans.

And thus it was in Finland (and neighbouring Sweden for that matter).  It is a point I’ve been making about New Zealand: when severe adverse shocks hit, provided your exchange rate is floating, not only does the exchange rate fall, but interest rates typically do too.  Those are typically very powerful buffers, especially in the case of an adverse shock that isn’t global in nature.

And what of the role of the collapse in Finnish exports to the (now) former Soviet Union.  I found various books and articles on my shelves about the Finnish experience –  it was one of the handful of defining post-war crises.  None of them regard that sudden drop as a particularly important part in the Finnish recessionary story.  For anyone interested, there is an interesting recent paper by a couple of Finnish researchers.  Their summary is as follows

It is shown that empirically, the strong credit expansion resulting from the simultaneous liberalization of the domestic financial markets and international capital movements has played the most important role in explaining the changes in real economic activity in Finland during the time period analyzed. In fact, over a longer time period (1980-2005) exports to Russia emerge as a countercyclical variable: slightly contractionary after the crazy years, and expansionary during the following depression [exports to Russia recovered somewhat after the first chaotic year or two].

Exporters were fairly soon able to find alternative markets for their products, helped –  after 1992 –  by the much lower real exchange rate.

And what of the overall Finnish economy itself?  After freeing the exchange rate and allowing real interest rates to drop sharply, the economy itself rebounded quite rapidly.  By 1997, real per capita GDP was already 4 per cent above somewhat flattering boom-exaggerated 1990 levels.

finland real pc GDP  And consistent with a story I’ve run here in various posts over the years, through all that disruption and dislocation, here is the path of Finnish real labour productivity (real GDP per hour worked).

fin real gdp phw

As was the case with the numerous US financial crises in the 19th and early 20th centuries, there isn’t much sign of any enduring damage to productivity (levels or growth) from the Finnish crisis.  That’s reassuring, if not terribly surprising.

(Finland’s economic performance in the last decade has been pretty shockingly bad, including a productivity performance that –  like the UK’s –  is even worse than New Zealand’s over that period.  But that is a story for another day.)

 

A problem awaiting the new government

Whichever party, or group of parties, gets to form the next government will face the same facts about our disappointing economic performance.  As I noted a few weeks ago, based on the recent PREFU projections, not even Treasury seemed to rate very highly the chances of meeting the National-led government’s export objective.

Here is the share of exports in GDP, showing actuals for the last decade or so, and Treasury’s projections for the next few years.

x to gdp

By the end of that forecast period, there will only be four more years until the goal of a much-increased export share of GDP was to be met.  On these numbers, exports as a share of GDP would by then be at their lowest since 1989, 32 years earlier.  So much for a more open globalising economy.

One of the indicators I like to use is a rather rough and ready decomposition of real GDP into its tradable and non-tradable components, first developed by an IMF staffer looking at New Zealand a decade or so ago.    It assigns the primary sector and the manufacturing sector components of real production GDP, and the exports of services component of expenditure GDP, to the tradables sector –  the bits where New Zealand firms are competing with the rest of the world.  The rest of GDP is classed as non-tradable.    It isn’t a precise delineation by any means: some local manufacturing isn’t really tradable (due to high weight and low value, and thus transport costs) and, for example, the electricity generated for Comalco is, in effect, tradable.   But, broadly speaking, it seems to capture something meaningful about the New Zealand economy.  In the early days of the National government, then Minister of Finance Bill English was quite keen on it.

All economies need firms in both tradables and non-tradables sectors.  So one sector isn’t inherently better or worse than the other.  But countries that are catching up with the world-leading economies tend to be ones in which the tradables sector (exports and import-competers) lead the way.  In such economies, firms are finding more and better, more lucrative, ways to tap the much larger global market.  Of course, we also gain when the non-tradables sector is becoming more productive –  both directly as consumers, and as a reduction in the input costs of tradables sector firms.    But there is a limit to how many cafe meals we can serve each other.  There isn’t really a technical limit on, say, how many smart ideas, translated into appealing products, that firms in a small country could sell to the rest of the big world.

As well as dividing real GDP into tradables and non-tradables components, I’ve also expressed both components in per capita terms.    Over long periods of time, most real economic series trend upwards, and actually it is something like per capita production or value-added that matters most in looking at gains in material well-being.   Here is the latest version of my chart, updated for last week’s GDP release.

t and nt components to jun 17

The series do bob around a bit.  The tradables sector, for example, had a very good June quarter on the back of a couple of tourism one-offs (the World Masters’ Games and the Lions tour) but then it had had a poor year last year.   But what I try to draw attention to is that (a) the peak in the tradables series was as long ago as 2004, and (b) real per capita tradables sector output is now no higher than it was at the end of 2000, almost 17 years ago.  Across the whole terms of two governments, one National-led and one Labour-led, there has been almost no growth at all in the real per capita GDP of the tradables sector. None.

Some economists really don’t like the chart.  So lets look instead at each of the components that make up the tradables sector measure.

tradables components 2

Services exports, in real per capita terms, did very well in the 1990s, growing quite strongly until around 2002.  But, overall, almost no growth since.   The mining sector briefly did very well around 2007/08 when a new oil well came on stream.   And, in per capita terms, the agriculture, forestry and fishing component of production GDP, and the manufacturing component, have gone almost nowhere over 25 years, again in real per capita terms.

What changed 15 years ago?  Well, one of the things that has changed a great deal is the real exchange rate.  Here is a chart of the Reserve Bank’s index, showing an average for the last 15 years (as well as one for the previous few years).

rer to july 17

It is unlikely –  all but inconceivable in fact –  that if we keep on doing what we’ve been doing for the last 15 years or more, in terms of economic policy settings, that we’ll see any sustained per capita growth in our tradables sectors.  It is that old line about a definition of insanity being doing the same stuff over again and expecting a different result.

Even to sustain those sectors at the sort of flat levels –  no growth at all – we’ve had over the last 15 years or more has involved the significant subsidies of (a) unpriced pollution externalities especially around water, (b) significant direct subsidies (to, most notably, the film industry) and (c) significant effective subsidies to the export education industry (by offering a bundled product where students can pay for an education –  in some cases an “education” –  and get preferred access to work and residence visa entitlements too –  that benefit being provided free to the providers by the New Zealand government).

I’d be very happy for a new government, of whatever stripe, to deal directly to any or all of those distortions.  But they, and their advisers, need to bear in mind that exchange rate chart.   Unless the real exchange rate falls quite materially, it is difficult to envisage much growth in other tradables industries to replace the shrinkage in the subsidised industries.  (It was exactly the same issues policy advisers faced when we started liberalising, and stripping away earlier subsidies, in 1984.)   Real exchange rates can’t be managed directly, but they can be materially influenced by removing the sorts of other policy distortions that put intense pressure on domestic resources, and drive up the prices of non-tradables relative to tradables, skewing the economy away from the tradables sector.

I’m not optimistic about prospects, but the good thing about pessimism is that one can, just occasionally, be pleasantly surprised.

 

Investment data again highlight fundamental weaknesses

After an early morning with some boisterous visiting nieces and nephews, there is a certain calm retreat in getting back to some of the details of yesterday’s national accounts release.

I’ve written previously here about the investment numbers.  The state of investment spending is a useful, if never foolproof, indicator of the state of the economy.  Not so much in a mechanical adding-up sense –  a quarter of weak investment probably translates into a weaker quarter for GDP – as in the questions the data can pose about just what is going on more broadly, and the viable opportunities that businesses are finding, and taking up (or not), in New Zealand.

My typical starting point is a chart like this, breaking out investment spending into residential, government, and “business”.  (I put “business” in quote marks because, as the OECD does, it is calculated residually –  subtracting the other two components from total fixed capital formation.)

I shares of GDP june 17

Using quarterly data means living with a bit of “noise”, but not that much, and doing so enables us to see if there are any material changes emerging at the very end of the series.

I don’t want to say much about general government investment spending.   In recent years, that share has been averaging a bit higher than what we saw in, say, the five years before the last recession.  Then again, government (central and local) has faced significant post-earthquakes repair and rebuild expenditure, and the population growth on average over recent years has been a bit faster than that in the previous decade.  If anything, one might have expected the government investment share would have needed to be a bit higher still, at least given the range of functions governments currently take on,

What of residential?   In nominal terms, residential investment spending (new builds and renovations etc) as a share of GDP is now just below the highest levels seen in the history of this series (and actually in the annual series which goes all the way back to the year to March 1972, thus capturing the peak of the building boom in the early 1970s).    Given the rapid rate of population growth –  a little higher, but lasting longer, than the growth rates 15 years ago –  one would expect to see a pretty high share of GDP being devoted to housebuilding and associated activities.   But you will notice that the residential line has fallen a bit in recent quarters, and consistent with that the volume of residential investment spending undertaken in the June quarter this year was about 1.4 per cent lower than such spending in the June quarter of last year.

popn growth apc

In this post, my main interest is in the business investment component (the orange line in the chart).  Strip out the modest quarter-to-quarter fluctuations up and down, and there has been no real change in the share of (nominal) GDP devoted to business investment for almost six years now.   Over the six years, business investment as a share of GDP has been materially lower (around 2 percentage points of GDP) than the average for the 15 years or so prior to the 2008/09 recession.    That is a big change.    And doubly so because of the sustained acceleration in the population growth rate in the last few years (and with it growth in the number of jobs).  Workers typically need capital equipment, even if it is nothing more than a laptop (and associated software) and a place to work.

Ratios of nominal investment spending to nominal GDP aren’t the only sensible way to look at things. In particular, in New Zealand a lot of capital equipment is imported (eg vehicles and most machinery, but not buildings themselves).  A high exchange rate –  such as we’ve had in recent years, but also had to a lesser extent in the last few years of the 2000s boom –  tends to lower the price (in NZD terms) of capital equipment.  The volume of business investment might still be growing quite rapidly, even if the nominal investment spending share of GDP is pretty weak  (of course, for tradables sector firms the high exchange rate is no gain –  capital equipment might be cheap, but the expected returns to any investment are also dampened).

So here is a chart of the annual percentage change in real business investment.

bus i 2

The volume of business investment has been growing, but at a quite modest rate.  In the last five years of the previous previous boom, the annual growth rate was around 10 per cent per annum.  Over the last five years, the annual growth rate in the volume of busines investment has averaged only about 4 per cent (which also happens to have been the growth rate for the last year).

These pictures don’t really surprise me.  They are what one would have expected once one knew of (a) the magnitude of the damage caused by the earthquakes (from day one  at the Reserve Bank we knew this was a large non-tradables shock, which would skew activity away from business investment, especially in the tradables sector, for several years), and (b) the scale of the population increase.   Those pressures have helped hold our real exchange rate up so much and for so long, and reinforced the persistent large margin between our real interest rates and those abroad.  In that sort of environment, total business investment (share of GDP) is less than it otherwise would be, and –  although it isn’t able to be illustrated here –  what business investment does occur will be skewed away from tradables sectors.   Not even very high terms of trade levels were enough to counter-act the downward pressure on business investment growth, and monetary policy held tighter than it needed to be didn’t help either.

Looking back at that first chart, the weak and almost dead-flat business investment line was reminiscent of the productivity chart I showed yesterday.  It is also consistent with the weak export performance I wrote about last week.  The three indicators are causally related: business operating in, or which might have contemplated entering, the tradables sector, and thus taking on the world, simply haven’t been able to find sufficient attractive and remunerative opportunities.

The pressures associated with post-earthquake rebuild expenditure will wane, and probably already are.  But meanwhile, policy continues, year in and year out, to supercharge our rate of population growth, bringing in huge numbers of modestly skilled people, to a location where the successful opportunities for firms to take on the world with great products and services seem to be growing much more slowly than the number of people living here.  The flawed policy –  shared across both main parties and several of the minor ones –  just keeps making it harder than it needs to be for New Zealanders as a whole to get ahead.   Our immigration policy was crazy when lots of New Zealanders were leaving each year, but it is even more deeply problematic when the travails of Australia’s labour market mean that the outflow has (probably temporarily) largely ceased.

 

Mr Joyce tries to defend New Zealand’s export record

Alex Tarrant, at interest.co.nz, has done a couple of interesting interviews, one each with the current Minister of Finance, Steven Joyce, and with the man who would replace him, Labour’s Grant Robertson.     There are various things in each interview that I might comment on in the next few days –  including in particular Robertson’s comments on his plans re the Reserve Bank.

In the interview with Joyce, this blog even got a mention, as the Minister was forced to concede that five years of no productivity growth (at least as measured at present) might perhaps be something that should be taken seriously.

“Productivity has been a struggle everywhere. If you look across the eight years – and let’s be clear, these people that talk about productivity measures over a year, they’re really…”
I cut in: former Reserve Bank economist, and Croaking Cassandra blogger Michael Reddell’s talking about the last five years, when productivity growth has been negative by most measures.
“Five years is getting more like it,” he accepts. “The thing about measuring productivity is it’s generally measured more effectively a couple of years after the fact, which is very frustrating for those us who are focussed on it,” he said.

So now, apparently, we are reduced to just hoping that the last few years’ data end up revised away?  Maybe……

But today I wanted to focus on Joyce’s comments around the New Zealand export performance and the government’s export target, partly because on this occasion he has articulated his perspective more fully than I’ve seen previously.     Here is the heart of that section of the interview

I ended by putting a couple of numbers to Joyce – one was on the goal to increase exports as a proportion of GDP from 30% to 40% by 2025. It hasn’t shifted from 29% since 2008. Is he disappointed?
“I’d like to see more growth in that.” He couldn’t really have said much else. “But you have to go and look at what’s been happening under the hood. And under the hood, world trade intensity has dropped.
“So, if you look at New Zealand relative to say, your Singapores, your Denmarks or so on, which are the big traders, they’ve gone back a bit, because we’ve had an extended period of a decline in world trade,” he says.
“We’ve held our own. Again, it’s nothing to write home about necessarily, except that we haven’t slipped back the way other countries have.”
Another thing New Zealand had been dealing with was our biggest export had been “down a bit of a hole over the last two or three years,” Joyce said (about dairy).

Actually, Tarrant’s introduction is a bit generous.   Exports as a share of GDP in New Zealand were 29.2 per cent in the year to March 2008, rose quite a bit when the exchange rate plummeted in the following year, but were down to 26.7 per cent in the year to March 2017.  The last time the export share was lower than that was 1990.

exports 1

What of the Minister’s claim about what’s gone on in the rest of the world?   It isn’t entirely clear how relevant it is to New Zealand anyway, given that the government has set, and regularly updated, the New Zealand target, including in the Business Growth Agenda refreshes as recently as this year.  But set that to one side for the moment.  What do the data show, and how do we compare?

For the whole world, the best source of data is the World Bank.  Often it is only available with a bit of a lag.

exports 2.png

For the world as a whole, exports as a share of GDP have indeed dropped slightly since 2007 or 2008.  But that is very largely a China story –  after a couple of decades of very strong export-led growth, the story of China in the years since the 2008/09 recession has been a domestic credit and infrastructure phase.  The foreign trade share of GDP has fallen back a long way –  and is probably still above what would expect in the long-term for a country the size of China.    For high income countries (a World Bank category) exports haven’t grown markedly as a share of GDP, but they have grown.  Of the Minister’s other examples, Singapore’s export share is very high and quite volatile, and has fallen back somewhat  –  as I illustrated in a post a few months ago, they’ve had a huge increase in their real exchange rate –  but Denmark’s hasn’t.

The usual group we compare New Zealand against is the other advanced economies in the OECD.   Here is how New Zealand has done relative to the median OECD country.

exports 3.png

The shifts aren’t dramatic but (a) we’ve done less well than them, and (b) we were the country whose government set a target for a dramatic change.

If we use calendar year 2007 as a reference point (the last full year before the recession), there are a few countries whose (nominal) export share of GDP has dropped by materially more than New Zealand’s.  They are Chile, Israel, and Norway.   Of them, Chile and Norway have experienced very substantial falls in their terms of trade –  sustained falls in copper and oil prices.    By contrast, New Zealand(despite the ups and downs in dairy prices) and Israel have had the largest increases in the terms of trade of any OECD country over that (almost) decade.  All else equal, a rising terms of trade should have tended to lift a country’s export share of GDP relative to those in other countries (matched, in time, by a higher import share of GDP, as the proceeds of the better prices are spent).

All of these numbers to date have been measures of the nominal value of exports relative to nominal GDP.  The government has expressed its export target in terms of volumes.  As I’ve noted before, ratios of real variables don’t make a lot of sense, and Statistics New Zealand advises against using them.   But one way of looking at volumes that does make some sense is to compare the volume growth of exports to the volume growth of GDP over a reasonable period.  In this case, I’ll look at the most recent year (to March 2017) relative to that last pre-recession year, calendar 2007.

In this chart I have calculated the total percentage growth in the volume of exports since 2007 and substracted from that the total percentage growth in real GDP over that same period.  (It might be more proper to do this multiplicatively, but I’ve checked and it doesn’t change the rankings.)

exports 4

There are OECD countries that have had a weaker relative export volume performance than New Zealand over this period, but not many.  And the median country’s experience is very different than ours has been.  And that is even with all those subsidised additional education exports and (as the Opposition parties might note) additional unpriced water pollution and methane emissions associated with the growth in agricultural exports.

Recall too that the whole logic behind the government’s export target was about closing some of those income and productivity gaps to the rest of the advanced world.  As Mr Joyce noted elsewhere in that same interview “productivity has been a 30 to 40-year issue for New Zealand” (longer than that actually).    One of the ways in which sustainable success of an economy tends to manifest is in the ability of firms based in a country to sell more stuff successfully abroad, enabling us to purchase more stuff from them.

In a post the other day, I highlighted our experience relative to a bunch of other countries that had been setting out to catch up, eight (now) fairly-advanced central and eastern European former communist countries.

Here is how (nominal) exports as a share of GDP have done in New Zealand and in those countries since 2007.

exports 5

and here is a chart showing the gap between the growth rate of export volumes and the growth rate of real GDP (again, latest 12 months compared to calendar 2007).

exports 6

And, drawing this towards a close, in case anyone was hoping (against hope) that the services sector might provide a more encouraging export story (death of distance as technology advances etc) here is the chart of how services exports as a share of GDP have done.

exports 7.png

But no.

Were I trying to make a case for the defence, I would highlight two relevant considerations that Steven Joyce didn’t mention:

  • first, the impact of the Canterbury earthquakes.  Real resources have had to be used for the repair and rebuild process that simply couldn’t be used elsewhere (eg to build export industries), particularly as much of the cost was covered by offshore reinsurance (which gave people cash, but not more real resources to do the rebuilding with).  As that phase passes, resources will be freed up and we might expect them to flow back towards the tradable sectors of the economy,
  • second, the unexpected sharp and persistent reduction in interest rates which (for a country with a large private external debt) represented a considerable windfall.  We have been able to consume more without having to produce (or export) more.  It is a windfall, but in the longer-run it is no substitute for a policy climate that supports productivity growth and the growth in both the export and import share of our economy.

And, on the other hand, you might have noticed that I mentioned earlier that Israel had been somewhat like us.  Exports as a share of GDP had fallen further than in New Zealand, and the terms of trade had increased over the last decade by about as much as New Zealand’s had.   The other thing that constantly marks out Israel is the rate of population growth, from a mix of high (but falling) birth rates and high rates of immigration.    Israel’s population has increased by just over 20 per cent since 2007  (New Zealand’s population has increased quite rapidly by international standard, but “only” by about 12 per cent).

Just like the earthquake story, real resources required to build the considerable infrastructure (houses, road, offices, factories, schools etc) associated with a rapidly growing population aren’t available for growing other industries.  In New Zealand’s case that rationing process works through a persistently high real exchange rate and real interest rates persistently high relative to other advanced countries.   I’ve written previously about Israel’s underwhelming long-term productivity performance, and suggest that, as with New Zealand, rapid population growth in an unpropitious location, has made it hard for firms based in either country to take on the world (economicially) and succeed.   The experience of recent years –  remember, no productivity growth at all in New Zealand for five years now – looks like another straw in the wind in support of that suggestion.

Relative to the government’s target, export performance in New Zealand has been poor.  Relative to other advanced countries, it has also been poor.  And all that notwithstanding very favourable terms of trade.   Exports aren’t everything by any means, but the only OECD country in the last decade that has had a worse overall export performance than New Zealand and had a good terms of trade has been the one advanced country with a consistently faster rate of population growth.   Export volumes have grown quite a lot in the last decade – just over 20 per cent –  but they’ve barely kept up with overall GDP growth (in most countries, there has been much more export volume growth), and even then only through new subsidies (export education) and unpriced environmental externalities.  It is a flawed strategy.  And it is an unsustainable one.

 

Treasury not convinced about the economic strategy?

Or so it would seem from looking at the forecast tables accompanying today’s PREFU.

Recall that the government has long had a goal of materially increasing the share of New Zealand’s GDP accounted for by exports (with, presumably, a more or less matching increase in imports).  As I’ve highlighted on various occasions –  yesterday most recently – if anything the actual export share of GDP has been shrinking.

Here is the share of exports in GDP, showing actuals for the last decade or so, and Treasury’s projections for the next few years.

x to gdp

By the end of that forecast period, there will only be four more years until the goal of a much-increased export share of GDP was to be met.  On these numbers, exports as a share of GDP would by then be at their lowest since 1989, 32 years earlier.  So much for a more open globalising economy.

(The government actually specifies their target as the ratio of real exports to real GDP, while this chart is nominal exports to nominal GDP.    Statisticians generally advise against using the real formulation.  But on this occasion, it doesn’t make much difference either way.    Over the five forecast years, the volume of exports is forecast to rise by 10.8 per cent, and real GDP is forecast to rise by 15.6 per cent.   Whichever way you look at it, The Treasury expects the export share of the economy to carry on shrinking over the next few years.)

In many respects that isn’t very surprising.  Treasury expects no fall in the exchange rate at all over the period, and they expect rapid increases in the OCR from around the end of next year.  And they expect continued rapid population growth.

It is a non-tradables skewed economy, and while there is nothing intrinsically wrong with non-tradables, it isn’t usually a successful path for countries seeking to achieve higher productivity and sustained national prosperity.    (Although Treasury does forecast that six years of zero productivity growth will finally come to an end, and we’ll have respectable productivity growth from 2019 onwards.  What this is based on, who knows.  We can hope I suppose.)