Doomed to repeat history…..or not

Last week marked 10 years since the pressures that were to culminate in the so-called “global financial crisis” burst into the headlines .

Local economist Shamubeel Eaqub marked the anniversary in his Sunday Star-Times column yesterday.  It grabbed my attention with the headlines Ten years on from the GFC” and “We appear dooomed to repeat history” .  

Frankly, it all seemed a bit overwrought.

It seems inevitable that there will be yet another crisis in the global financial system in the coming decade.

There have been few lessons from the GFC. There is more debt now than ever before and asset prices are super expensive. The next crisis will hopefully lead to much tighter regulation of the financial sector, that will force it to change from its current cancerous form, to one that does what it’s meant to.

The first half of the column is about the rest of the world.  But what really caught my attention was the second half, where he excoriates both the Reserve Bank and the government for their handling of the last decade or so.    This time, I’m defending both institutions.

There are some weird claims.

We were well into a recession when the GFC hit. So, when global money supplies dried up, it didn’t matter too much, because there was so little demand to borrow money in New Zealand anyway.

Here he can’t make his mind as to whether he wants to date the crisis to, say, August 2007 (10 years ago, when liquidity pressures started to flare up) or to the really intense phase from, say, September 2008 to early 2009.

Our recession dates from the March quarter of 2008 (while the US recession is dated from December 2007), but quite where he gets the idea that when funding markets froze it didn’t matter here, I do not know.  Banks had big balance sheets that needed to be continuously funded, whether or not they were still expecting any growth in those balance sheets. And they had a great deal of short-term foreign funding.  Frozen foreign funding markets, which made it difficult for banks to rollover any such funding for more than extremely short terms, made a huge impression on local banks.  For months I was in the thick of our (Treasury and Reserve Bank) efforts to use Crown guarantees to enable banks to re-enter term wholesale funding markets.  Banks were telling us that their boards wouldn’t allow them to maintain outstanding credit if they were simply reliant on temporary Reserve Bank liquidity as a form of life support.

Despite what he says I doubt Eaqub really believes the global liquidity crunch was irrelevant to New Zealand, because his next argument is that the Reserve Bank mishandled the crisis.

The GFC highlighted that our central bank is slow to recognise big international challenges. They were too slow to cut rates aggressively. They were not part of the large economies that clubbed together to co-ordinate rate cuts and share understanding of the crisis.

I have a little bit of sympathy here –  but only a little.  I well remember through late 2007 and the first half of 2008 our international economics people patting me on the head and telling me to go away whenever I suggested that perhaps events in the US might lead to something very bad (and I’m not claiming any great foresight into just how bad things would actually get).  And I still have a copy of an email from (incoming acting Governor) Grant Spencer in August 2007 suggesting that it was very unlikely the international events would come to much and that contingency planning wasn’t worth investing in.

And, with hindsight, of course every central bank should have cut harder and earlier.  I recall going to an international central banking meeting in June 2007 when a very senior Fed official commented along the lines of “some in the market are talking about the prospect of rate cuts, but if anything we are thinking we might have to tighten again”.

As for international coordination, well the Reserve Bank was part of the BIS –  something initiated in Alan Bollard’s term.  Then again, we were tiny.   So it was hardly likely than when various central banks did coordinate a cut in October 2008 they would invite New Zealand to join in.  Of its own accord, the Reserve Bank of New Zealand cut by 100 basis points only two weeks later (having already cut a few weeks earlier).

But what did the Reserve Bank of New Zealand actually do, and how did it compare with other advanced country central banks?

The OECD has data on (a proxy for) policy rates for 19 OECD countries/regions with their own currencies, and a few other major emerging markets.   Here is the change in the policy rates between August 2007 (when the liquidity pressures first became very evident) and August 2008, just before the Lehmans/AIG/ agencies dramatic intensification of the crisis.

policy rate to aug 08

The Reserve Bank had cut only once by this time.  But most of these countries had done nothing to ease monetary policy.  It wasn’t enough, but it wasn’t exactly at the back of the field, especially when one recalls that at the time core inflation was outside the top of the target range, and oil prices had recently been hitting new record highs.

That was the record to the brink of the intense phase of the crisis.  Here is the same chart showing the total interest rate adjustment between August 2007 and August 2009 –  a few months after the crisis phase had ended.

policy rate to aug 09

Only Iceland (having had its own crisis, and increased interest rates, in the midst of this all) and Turkey cut policy rates more than our Reserve Bank did.   In many cases, the other central banks might like to have cut by more but they got to around the zero bound.  Nonetheless, the Reserve Bank cut very aggressively, to the credit of the then Governor.  It was hardly as if by then the Reserve Bank was sitting to one side oblivious.

Obviously I’m not going to defend the Reserve Bank when, as Eaqub does, he criticises them for the mistaken 2010 and 2014 tightening cycles.  And the overall Reserve Bank record over several decades isn’t that good (as I touched on in a post on Friday), but their monetary policy performance during the crisis itself doesn’t look out of the international mainstream.   Neither, for that matter, did their handling of domestic liquidity issues during that period.

Eaqub also takes the government to task

The government bizarrely embarked on two terms of fiscal contraction. This contraction was at a time of historically low cost of money, and a long list of worthy infrastructure projects in housing and transport.

Projects that would have created long term economic growth and made our future economy much more productive, tax revenue higher, and debt position better.

Our fiscal policy is economically illiterate: choosing fiscal tightening at a time when the economy needed spending and that spending made financially made sense.

To which I’d make several points in response:

  • our interest rates, while historically low, remain very high relative to those in other countries,
  • in fact, our real interest rates remain materially higher than our rate of productivity growth (ie no productivity growth in the last four or five years),
  • we had a very large fiscal stimulus in place at the time the 2008/09 recession hit, and
  • we had another material fiscal stimulus resulting from the Canterbury earthquakes.

Actually, I’d agree with Eaqub that the economy needed more spending (per capita) over most of the last decade –  the best indicator of that is the lingering high unemployment rate – but monetary policy is the natural, and typical, tool for cyclical management.

And, in any case, here is what has happened to gross government debt as a share of GDP over the last 20 years.

gross govt debt

Not a trivial increase in the government’s debt.   Not necessarily an inappropriate response either, given the combination of shocks, but it is a bit hard to see why it counts as “economically illiterate”.  Much appears to rest on Eaqub’s confidence that there are lots of thing governments could have spent money on that would have returned more than the cost of government capital.  In some respects I’d like to share his confidence.  But I don’t.   Not far from here, for example, one of the bigger infrastructure projects is being built –  Transmission Gully –  for which the expected returns are very poor.

Eaqub isn’t just concerned about how the Reserve Bank handled the crisis period.

Our central bank needs to own up to regulate our banks much better: they have allowed mortgage borrowing to reach new and more dangerous highs.

I’d certainly agree they could do better –  taking off LVR controls for a start.  But bank capital requirements, and liquidity requirements, are materially more onerous than they were a decade ago.  And our banking system came through the last global crisis largely unscathed –  a serious liquidity scare, but no material or system-threatening credit losses.  Their own stress tests suggest the system is resilient today.  If Eaqub disagrees, that is fine but surely there is some onus on him to advance some arguments or evidence as to why our system is now in such a perilous position.

Macro-based crisis prediction models seem to have gone rather out of fashion since the last crisis.  In a way, that isn’t so surprising as those models didn’t do very well.     Countries with big increases in credit (as a share of GDP), big increases in asset prices, and big increases in the real exchange rate were supposed to be particularly vulnerable.  Countries like New Zealand.   The intuitive logic behind those models remained sound, but many countries had those sorts of experiences and had banks that proved able to make decent credit decisions.  And we know that historically loan losses on housing mortgage books have rarely been a key part in any subsequent crisis.     Thus, the domestic loan books of countries like New Zealand, Australia, Canada, the UK, Norway and Sweden all came through the last boom, and subsequent recession, pretty much unscathed.

One of the key indicators that used to worry people (it was the centrepiece of BIS concerns) was the ratio of credit to GDP.  Here is private sector credit as a per cent of GDP, annually, back to when the Reserve Bank data start in 1988.

psc to gdp

Private sector credit to GDP was trending up over the two decades leading up to the 2008/09 recession.   There was a particularly sharp increase from around 2002 to 2008 –  I recall once getting someone to dig out the numbers suggesting that over this period credit to GDP had increased more in New Zealand than it had increased in the late 1980s in Japan.  It wasn’t just housing credit.  Dairy debt was increasing even more rapidly, and business credit was also growing strongly.   There was good reason for analysts and central bankers to be a bit concerned during that period.  But what actually happened?  Loan losses picked up, especially in dairy, but despite this huge increase in credit –  to levels not seen as a share of GDP since the 1920s and 30s – there was nothing that represented a systemic threat.

And what has happened since?  Private sector credit to GDP has barely changed from the 2008 peak.  In other words, overall credit to the private sector has increased at around the same rate as nominal GDP itself.  It doesn’t look very concerning on the face of it.  Of course, total credit in the economy has increased as a share of GDP, but that reflects the growth in government debt (see earlier chart), and Eaqub apparently thinks that debt stock should have been increased even more rapidly.

It is certainly true that household debt, taken in isolation, has increased a little relative to household income.  But even there (a) the increase has been mild compared to the run-up in the years prior to 2008, and (b) higher house prices –  driven by the interaction of population pressure and regulatory land scarcity – typically require more gross credit (if “young” people are to purchase houses from “old” people).

If anything, what is striking is how little new net indebtedness there has been in the New Zealand economy in recent years.  Despite unexpectedly rapid population growth and despite big earthquake shocks, our net indebtedness to the rest of the world has been shrinking (as a share of GDP) not increasing.  Again, big increases in the adverse NIIP position has often been associated with the build up of risks that culminated in a crisis –  see Spain, Ireland, Greece, and to some extent even the US.   I can’t readily think of cases where crisis risk has been associated with flat or falling net indebtedness to the rest of the world.

There is plenty wrong with the performance of the New Zealand economy, issues that warrant debate and intense scrutiny leading up to next month’s election.  In his previous week’s column, Eaqub foreshadowed the possibility of a domestic recession here in the next year or two: that seems a real possibility and our policymakers don’t seem remotely well-positioned to cope with such a downturn.     But there seems little basis for “GFC redux” concerns, especially here:

  • for a start, we didn’t have a domestic financial crisis last time round, even at the culmination of two decades of rapid credit expansion,
  • private sector credit as a share of GDP has been roughly flat for a decade,
  • our net indebtedness to the rest of the world has been flat or falling for a decade,
  • there is little sign of much domestic financial innovation such that risks are ending up in strange and unrecognised places, and
  • whereas misplaced and over-optimistic investment plans are often at the heart of brutal economic and financial adjustments, investment here has been pretty subdued (especially once one looks at capital stock growth per capita).

In other words, we have almost none of the makings of any sort of financial crisis, “GFC” like, or otherwise.

House prices are a disgrace. We seem to have no politicians willing to call for, or commit to, seeking lower house prices.  But markets distorted by flawed regulation can stay out of line with more structural fundamentals for decades.  If house prices are distorted that way, it means a need for lots of gross credit.  But it tells you nothing about the risks of financial crisis, or the ability of banks to manage and price the associated risks.

A fresher approach for ordinary New Zealanders

I’m as fascinated by the rise of Jacinda Ardern as any other political junkie.  I’ve always been a bit puzzled, struggling to see what issue she has led or what blows she had managed to land on the government.    Then again, she seems to have something different –  perhaps even more electorally important.   I’ve been dipping into accounts of Bob Hawke’s rise –  the last case I’m aware of that where major opposition party changed leaders close to an election (in that case only four weeks out) and won.     It isn’t clear that Bob Hawke was a better Prime Minister than Bill Hayden might have been, or that David Lange was a better Prime Minister than Bill Rowling would have been, but in both cases the new leaders had something –  a degree of connection, engagement etc –  that the deposed leaders didn’t.     Reading the accounts of the last weeks of Bill Hayden’s leadership of the ALP, the party had become as disheartened and lacking belief in its own ability to win (despite still leading in the polls), as some suggest the New Zealand Labour Party had become.    Quite what the Ardern phenomenon amounts to I guess we’ll see over the next few weeks.  From her comments so far, I could imagine her campaigning as Hawke did –  both the upbeat theme of “reconciliation”, and the more cynical description in (sympathetic) leading Australian journalist Paul Kelly’s book “no avenue of vote-buying or economic expansion was left untouched”.

For now, we are told that the “Fresh Approach” slogan is apparently out, and a new slogan and some new policies are soon to be launched.  Since no party really seemed to be campaigning on policies that might make a real and decisive for ordinary New Zealanders’ prospects, in many respect a fresher approach should be welcome.  Of course, it rather depends what is in that policy mix.

My interests here are primarily economic.  In an interview with the Dominion-Post this morning, the journalist put it to Ardern that “National will campaign on its economic record. Is that where Labour is weak?”.     Perhaps it is Labour’s weak point.  But what sort of “record” is the government to campaign on?  An unemployment rate that, while inching down, has been above the level it was when they took office –  already almost a year into a recession –  every single quarter of their entire term?  An economy that has had no productivity growth for almost five years?     House prices that, in our largest city, have gone through the roof?  Exports that are shrinking as a share of GDP?    And, at best, anaemic per capita real GDP growth?   If it is a weakness for Labour, it must be in large part because (a) their messaging has been terrible, and (b) nothing they offer seems likely to make any very decisive difference to the mass of ordinary New Zealanders.

What might?   Here’s my list of three main sets of proposals.    An effective confident radical Labour Party could offer the public these sorts of measures –  in fact, on some points arguably only a left-wing party could effectively do so (Nixon to China, and all that).

  1. A serious commitment to cheap urban land and much lower construction costs.
    • In a country with abundant land, urban land prices are simply scandalous.   The system is rigged, intentionally or not, against the young and the poor, those just starting out.  Too many of Jacinda Ardern’s own generation simply cannot afford to buy a house.
    • To the extent that there are poverty and inequality issues in New Zealand, many of them increasingly trace back to the shocking unaffordability of decent housing.   With interest rates at record lows, housing should never have been cheaper or easier to put in place.
    • And yet instead of committing to get land and house prices down again, the Labour Party has been reluctant to go beyond talk of stabilising at current levels.  Talk about entrenching disadvantage……(and advantage).
    • It is fine to talk about the government building lots of houses, but the bigger –  and more fundamental –  issue is land prices.  It is outrageous, and should be shameful, for people to be talking of “affordable” houses of $500000, $600000 or even more, in a country of such modest incomes.  International experience shows one can have, sustainably, quite different –  much better –  outcomes, but only if the land market is substantially deregulated.
    • I don’t have any problem if people want to live in denser cities –  I suspect mostly they don’t –  but it is much easier and quicker to remove the boundaries on physical expansion of cities (while putting in place measure for the associated infrastructure).   Labour’s policy documents have talked of moves in this direction –  as National’s used to do –  but it is never a line that has been heard from the party leader.     If –  as I propose –  population growth is cut right back, there won’t be much more rapid expansion of cities, but make the legislative and regulatory changes, and choice and competition will quickly collapse the price of much urban, and potentially developable, land.
    • It is clear that there is also something deeply amiss with our construction products market –  no one seriously disputes that basic building products are much more expensive here than in Australia or the US.  Make a firm commitment to fix this.  Perhaps it involves Commerce Commission interventions (supported by new legislation?)?  Perhaps it might even involve –  somewhat heretically –  a government entity entering the market directly.     But commit to change, to producing something far better for New Zealanders.
    • The vision should be one in which house+land prices are quickly –  not over 20 years –  headed back to something around three times income.  A much better prospect for the next generation.
    • No one will much care about rental property owners who might lose in this transition –  they bought a business, took a risk, and it didn’t pay off.  That is what happens when regulated industries are reformed and freed up.    It isn’t credible –  and arguably isn’t fair –  that existing owner-occupiers (especially those who just happened to buy in the last five years) should bear all the losses.   Compensation isn’t ideal but even the libertarians at the New Zealand Initiative recognise that sometimes it can be the path to enabling vital reforms to occur.  So promise a scheme in which, say, owner-occupiers selling within 10 years of purchase at less than, say, 75 per cent of what they paid for a house, could claim half of any additional losses back from the government (up to a maximum of say $100000).  It would be expensive but (a) the costs would spread over multiple years, and (b) who wants to pretend that the current disastrous housing market isn’t costly in all sorts of fiscal (accommodation supplements) and non-fiscal ways.
  2. Deep cuts in taxes on business and capital income
    • the political tide is running the other way on this one –  calls for increased taxes on foreign multi-nationals and so on –   but it remains straightforwardly true that taxes on business activity are borne primarily not by “the rich”, but by workers, in the form of lower incomes than otherwise.  So if you really care about New Zealand workers’ prospects, cut those taxes, deeply.
    • and one of the bigger presenting symptoms of New Zealand’s economic problems is relatively low levels of business investment.   Taxes aren’t the only thing businesses  –  and owners of capital  –  think about, but they are almost pure cost.   Tax a discretionary activity and you’ll get a lot less of it.   That is especially true as regard foreign investment –  those owners of foreign capital have no need to be here if the after-tax returns aren’t great.  For all the (mostly misplaced) concerns about sovereignty, foreign investment benefits New Zealanders –  ordinary working New Zealanders.     Cut the tax rates on such activity  –  they are already higher than in most advanced countries –  and you’ll see more of it taking place.    More investment, and higher labour productivity, translates into meaningful prospects of much higher on-market wages –  the sorts of wages they have in the advanced countries we were once richer than.
    • simply cutting the company tax rate will make a material difference to potential foreign investors.   It won’t make much difference for New Zealanders’ looking to build or expand businesses here, because of our imputation system    That’s why I’ve argued previously for adopting a Nordic system of income taxation  –  in which capital income is taxed at a lower rate than labour income.  Note the description –  it is a system not run in some non-existent libertarian “paradise” but in those bastions of social democracy, the Nordic countries.  Not because they want to advantage owners of capital over providers of labour, but because the recognise the well-established economic proposition that taxes on capital are mostly borne in the former of lower returns to labour.
    • some argue against cuts to business taxes on the grounds that it will provide a windfall to firms (especially foreign firms) already operating here.  Mostly, that is false.  It might be true if foreign firms dominated our tradables sector –  where product selling prices are set internationally.  But in New Zealand, foreign investment is much more important in the non-tradables sectors.  Cut taxes on, say, the banks, and you’ll find the gains being competed away, flowing back to New Zealand firms and households in lower fees and interest margins.  If for some reason it doesn’t happen, feel free to invoke the Commerce Commission (and/or expand its powers).
    • much lower business taxes should be a no-brainer for an intellectually self-confident centre-left party serious about doing something about long-term economic underperformance and lifting medium-term returns to labour.     I’m not really a fan of capital gains taxes, but if you need political cover promise a well-designed CGT –  it probably won’t do much harm, especially if you take seriously the goal of delivering much cheaper houses and urban land (see above –  there won’t be many housing capital gains for a long time).
  3. Deep cuts to target levels of non-citizen immigration
    • This item might be entirely predictable from me, but it is no less important for that.    Labour started out with some rhetoric along these lines, but as I’ve noted previously what they actually came out with was a damp squib, that would change very little beyond a year or so.   So
      • Cut the number of annual residence approvals to 10000 to 15000 per annum –  the same rate, per capita, as in Barack Obama’s (or George Bush’s) United States,
      • Remove the existing rights of foreign students to work in New Zealand while studying here.
      • Institute work visa provisions that are  (a) capped in length of time (a single maximum term of three years, with at least a year overseas before any return on a subsequent work visa) and (b) subject to a fee, of perhaps $20000 per annum or 20 per cent of the employee’s annual income (whichever is greater).
    • In substance, you will be putting the interests of New Zealanders first, but you will also strongly give that impression –  a good feature if you are serious about lifting sustained economic performance, while being relentlessly positive about it, and about your aspirations for New Zealanders.
    • Change in this area would immediately take a fair degree of pressure off house prices, working together with the structural housing/land market reforms (see above) to quickly produce much much more affordable houses and land.  Markets trade on expectations –  land markets too.
    • You’ll also very quickly alter the trajectory of urban congestion –  those big numbers NZIER produced in a report earlier this week.
    • But much more importantly in the longer-term, you’ll be markedly reducing the pressures that give us persistently the highest real interest rates in the advanced world, and
    • In doing so you’ll remove a lot of pressure from the exchange rate.  Lets say the OCR was able to be reduced to around typical advanced country levels (say 0.25 per cent at present).  In that world, the NZD offers no great attraction to foreign (or NZ institutional) holders – it is just one of many reasonably well-governed countries, offering rather low interest rates.  In that world, why won’t the exchange rate be averaging 20 per cent (or more) lower than it is now?
    • And that should be an adjustment to be embraced.  Sure, it will make overseas holidays and Amazon books etc more expensive, but in sense that is part of the point.  We need a rebalanced economy, better-positioned for firms to take on the world from here.  Combine a lower exchange rate, lower interest rates, and lower business tax rates, and you’ll see a lot more investment occurring –  and firms successfully selling more stuff internationally.  And with more investment will come the opportunities for sustainably higher wages –  and all the good stuff the centre-left parties like to do with the fiscal fruits of growth.

I don’t suppose anything like this will actually be part of the fresher approach.  But if it were……we could really look forward to a better, more prosperous, and a fairer New Zealand.

Some productivity snippets

I’ve shown previously various iterations of this chart, real GDP per hour worked for New Zealand and Australia.

real GDP phw july 17

It isn’t exactly an encouraging picture for New Zealand.   Then again, it is also a bit surprising.  For all of New Zealand’s underperformance over the decades, we haven’t usually diverged that badly from Australia over such a short period (the last four years or so).

That chart is for the whole of each economy, and just uses a crude measure of total hours worked.  The ABS and SNZ also produce annual data –  with quite a lag – in which they look only at the more readily measureable market sector of the economy (from memory around 85 per cent of the economy) and also attempt to adjust for changing labour quality over time (eg improvements in education and thus, in principle, human capital).

Here is that chart for labour productivity, indexed to 1000 in 1997/98, the first year for which the data are available for both countries.

market sector LP

The picture is much the same –  a new large gap has opened, in Australia’s favour, in the last few years.

Presumably part of those measured productivity gains in Australia reflects the massive private sector investment boom in the minerals and energy sectors that peaked back in 2011/12.

But out of curiosity I wondered how Australia had done recently relative to other advanced economies.    Using annual data from the OECD, percentage total growth in real GDP per hour worked over the five years 2011 to 2016 had been as follows:

Australia                                  5.3%

OECD Total                              6.3%   (and OECD median country, 5.7%)

G7                                              5.5%

EU                                              4.3%

Even the euro-area as a whole (2.5 per cent) just beat out New Zealand (2.3 per cent).     In that light, Australia’s relatively strong productivity performance didn’t look so anomalous at all.

Over that five year period, these are the OECD countries that managed more than 10 per cent productivity growth:   Estonia, Hungary, Korea, Latvia, Poland, Slovakia, and Turkey.    In fact every single one of the emerging OECD countries (the former eastern bloc countries and Korea) –  all with lower initial levels of productivity than New Zealand – managed stronger productivity growth than New Zealand did.   All but Slovenia had faster productivity growth than Australia.    That is what convergence –  supposedly the goal for New Zealand –  is supposed to look like.

Of course, several of these emerging countries had had a much worse experience –  even on productivity, which often isn’t very cyclical –  than New Zealand over the crisis/recession period around 2008/09.   But even if one looks at, say, the last decade as a whole, they are mostly catching up (often quite rapidly) and we are not.  In fact, relative to Australia –  typical closest comparator, and the place where so much of the New Zealand diaspora dwells –  we are getting further behind.

I ran a chart a few weeks ago about how low investment has been in New Zealand.  As I noted of business investment it “is now smaller as a share of GDP than in every single quarter from 1992 to 2008.   And this even though our population growth rate has accelerated strongly, to the fastest rate experienced since the early 1970s.”

Of course, an important story out of Australia is how business investment has fallen back since the peak of the mining investment boom.   Here is the business investment proxy (total investment less general government investment less residential investment) for the two countries.

bus investment aus and NZ

Business investment in Australia, as a share of GDP, has fallen very dramatically over the last few years.   But it was a very big boom –  we had nothing of the sort in New Zealand.  And even at current levels, Australia’s busines investment still materially exceeds the share of GDP devoted to business investment in New Zealand.  In fact, the gap between the two lines isn’t that dissimilar to the typical gaps that prevailed before the mining investment boom got underway in the mid 2000s.

Then again, over the last 25 years Australia’s population growth has averaged a little faster than New Zealand’s.   All else equal, faster population would generally require a larger share of current GDP to be devoted to business investment just to maintain the average quantity of capital per worker.

But here is the chart of the two countries’ population growth rates

popn growth aus and nz

Australia’s current population growth rate (1.5 per cent) isn’t much above the 25 year average (1.3 per cent). In New Zealand, the average population growth rate over the last 25 years has been 1.2 per cent, but in the last 12 months the population has increased by 2.1 per cent.     We have lots (and lots) more people, but firms presumably have not been finding it profitable to increase investment (on average across the whole economy), in ways that might suggest some possibility of the sort of productivity growth that might finally allow New Zealand to join the club of fast-growing countries, catching up to the wealthier countries in the OECD.

Not that our politicians give any sense of being worried.  An ill-governed place like Turkey –  not richer or more productive than New Zealand in our entire modern history –  might shortly go past us.   Countries that labour under communist regimes thirty years ago might go past us.  But none of our leaders seems to care. None of our parties has a platform that suggests they care, let alone offering a programme that might make a real difference.

Nonsense repeated endlessly is still nonsense

For decades –  in fact going back to the 19th century –  business groups in New Zealand have claimed that we need lots of immigration (often even more immigration) to relieve pressing skill shortages.   No one ever seems to ask them how other countries –  which typically have nowhere near as much immigration as we do –  manage to survive and prosper, but set that to one side for now.

Sometimes the alleged skill shortages relate to really highly-skilled positions.  I don’t suppose anyone is going to have a problem if DHBs manage to recruit the odd paediatric oncologist from abroad.   But more commonly the calls relate to the sorts of jobs that require considerably less advanced skills.  In generations past the call was for more domestic servants –  colonial girls were apparently reluctant to take on such roles, at least at the sorts of wages that middle New Zealand wanted to offer.     These days…….well, we all know the sorts of role firms claim they simply have to have immigrants for.  Without them, the more florid suggest, the economy will topple over.

For an individual employer, those calls make a lot of sense.  Each firm has to operate with the rest of the economy as it is.    Faced with two potential employees of exactly the same quality, of course an employer will prefer the one who will work for less.  And they’ll be keen to have the competition among potential employees, to keep down any pressure for higher wages.  And if your firm couldn’t hire immigrants while your competitor could, your business might well be in some considerable strife.     Moreover, if the whole pattern of the economy has adjusted to using large amounts of modestly-skilled immigrant labour, so that some sectors rely mainly on that labour, of course it will look to employers in those sectors as if the continuation of current policy is absolutely vital.   Who, we are asked, will staff the rest homes otherwise?  Or milk the cows?

Deprive an individual employer of the ability to hire modestly-skilled migrant labour, and the argument will stack up.   But if we are thinking about immigration policy as a whole we need to take a macroeconomic, whole of economy, perspective.  And then the perspective, or experience, of an individual employer is largely irrelevant.    With a materially different immigration policy, much about the economy will be different, not just the ability of that individual firm to hire a particular immigrant.

This isn’t some striking new perspective.  New Zealand economists were saying it decades ago, responding to exactly the same sort of business sector claims.   Mostly the response consisted of pointing out two things, both of which really should be obvious but seem to repeatedly get lost in the “our business needs more migrants” rhetoric:

  • migrants aren’t just producers (sources of labour supply) but consumers, and someone else has to produce the stuff they want to consume, and
  • in a modern economy each new person generates a need for quite a lot of additional capital (a place to live, roads, schools, hospitals, shops etc) and someone else has to produce and put in place that capital.

In other words, whatever beneficial impact an individual migrant may seem to have at the level of the individual firm, there is little reason to suppose that in aggregate high rates of immigration will do anything at all to ease so-called “skill shortages” or “labour constraints”.    In fact, mostly the claim was rather the reverse: big migration inflows temporarily exacerbate those pressures across the economy as a whole.

I’ve written previously about Professor Horace Belshaw’s contribution to the immigration debate as long ago as 1952, as the post-war immigration wave was getting into full swing.   Belshaw was, at a time, one of our leading macroeconomists.  He noted

At the time when there are more vacancies than workers, it is natural to assume that immigration will relieve the labour shortage. This however, is a superficial view.  The immigrants are not only producers but also consumers. To relieve the shortage of labour it would be necessary for more to be contributed to the production of consumer goods or of export commodities used to buy imported goods than the increased numbers withdraw in consumption.  That is unlikely….[and] there will be some temporary net additional pressure on consumption.


Of much greater importance is the fact that each immigrant requires substantial additional capital investment, not in money but in real things.  Houses and additional accommodation in schools and hospitals will be needed. In order to maintain existing production and services, and even more to maximize production per head, there must be more investment in manufacturing and farming, transport, hydro-electric power, municipal amenities and so on.

To anticipate a little, immigration is not likely to ease the labour shortage while it is occurring, and is more likely to increase it because although additional consumers are brought in, more labour than they provide must be diverted to creating capital if the ratio of capital to production is to be maintained.

A few years later, the Reserve Bank published an article in its Bulletin (April 1961) on “Economic Policy for New Zealand” by a visiting British academic, who noted

It is an illusion to assume that inflationary pressure and labour shortage can be relieved by increased immigration….the main immediate effect of increased immigration is to add to the shortage of capital goods. Even single men need to be housed, and they need capital equipment with which to work in industry…..Resources have to be devoted to providing this capital that could otherwise have been devoted to increasing and modernising capital equipment per man employed.

A few years later, another leading New Zealand economist, Frank (later Sir Frank) Holmes – Belshaw’s successor as McCarthy Professor of Economics at Victoria – published a series of articles on immigration for the NZIER.  I could quote from him at length, but suffice to say he was convinced that in the short-term the demand effects (including for additional labour) from increased immigration outweighed, by some considerable margin, the supply effects.   And here “short-term” didn’t mean a month or two.  In fact, he quoted from some recent estimates by the Monetary and Economic Council –  the Productivity Commission of its time – suggesting the additional excess demand would last for up to five years.

Or, a few years on, a quote from economic historian Professor Gary Hawke

Ironically, the success with which full employment was pursued until the late 1960s led to frequent claims that labour was in short supply so that more immigrants were desirable. The output of an individual industrialist might indeed have been constrained by the unavailability of labour so that more migrants would have been beneficial to the firm, especially if the costs of migration could be shifted to taxpayers generally through government subsidies. But migrants also demanded goods and services, especially if they arrived in family groups or formed households soon after arrival and so required housing and social services such as schools and health services. The economy as a whole then remained just as “short of labour” after their arrival.”

This sort of conclusion wasn’t even very controversial among economists.   Whatever the possible longer-term merits of high immigration –  and on that point views did differ –  no serious analyst saw it as a way to relieve labour market pressures or deal with other excess demand pressures.   It simply didn’t.

For 15 years there wasn’t very much immigration to New Zealand and in the process this knowledge seemed to have been largely lost.      But the character of the economy didn’t really change, let alone the basic propositions that (a) migrants are consumers too, and (b) more people requires the accumulation of materially more physical capital.    At the Reserve Bank it took us a while to wake up to this, in the face of first big post-liberalisation surge in immigration in the mid 1990s, but thereafter it became established wisdom for us.     Consistent with this was a piece of research the Bank published just a few years ago.  In that paper Chris McDonald looked at the impact of a one per cent lift in the population from net migration on, in this chart, the output gap (the estimated difference between actual GDP and the economy’s productive potential).

output gap mcdonald

On this estimate, unexpected changes in migration increase the excess demand pressures on the New Zealand economy.    The dark blue line is the central estimate, while the lighter lines represent confidence intervals around that central estimate.   Coincidentally –  see the Monetary and Economic Council estimates from earlier decades – on this model it takes five years (60 months) for the excess demand effects to fully dissipate.   Over  that time, on this model, immigration will be exacerbating aggregate labour market pressures, not relieving them.

I don’t want to put too much weight on any particular model estimates, and the Reserve Bank itself has tried to back away from this particular one.   What causes the change in immigration matters to some extent.     But the general conclusion –  immigration does not ease resource pressures –  shouldn’t be controversial.  Indeed, only a few months ago some IMF modelling on New Zealand’s experience again produced similar results.

None of this should be a surprise (including to economically literate officials advising ministers).  As I noted earlier there are two strands through which immigrants add to demand.  The first is consumption.  The household savings rate in New Zealand is roughly zero: on average, people consume what they earn.   Perhaps the typical (or marginal) migrant is different –  some will be sending remittances back to their homelands –  but even if we assume that new immigrants have hugely different behaviour than New Zealanders, perhaps consuming equal to only 80 per cent of income, it is still a significant boost to demand.  In effect, much of what the immigrants produce will be consumed by them (not exactly the same stuff, but across the economy as a whole).  That is no criticism of them –  people do what people do –  but it is the first leg in the story about why claims that immigration eases labour shortages are typically simply false.

But the much more important part of the story is the capital requirements that new people (migrants or natives) generate.     Here Statistics New Zealand’s capital stock data can help us.     The latest estimates of the net capital stock (ie net, as in depreciated, and excluding land) are around $750 billion.   Total GDP is around $250 billion.   That ratio of net capital stock to GDP has been pretty stable around 3 for decades.

cap stock to GDP

Each dollar of additional GDP seems to require three dollars of new capital.    And this ratio understates the issue for two reasons:

  • the first is that the capital stock is a net (depreciated) figure and the GDP is gross (it includes capital spending to cover depreciation  –  around 15 per cent of GDP), and
  • the second is that our focus is here on the contribution of labour.    The ratio of the net capital stock to compensation of employees (the national accounts measure of total labour earnings) is almost 7.

These are average numbers of course, and in discussing immigration the focus should be on the margin.    It might be reasonable to point out that the typical migrant won’t need much more government capital in the short-term (eg schools and hospitals)  –  but then central government makes up only around a sixth of the total capital stock.  Perhaps the typical migrant, at least their early years, will settle for less good quality housing than the typical native?   But on the other hand, the productivity of the typical migrant is also likely to be lower than the national average, again at least in the early years (MBIE’s own labour market research highlights how long it takes many migrants to reach the earnings of similarly qualified locals).   So I’m not here to give you a definitive number for how much new capital spending is typically going to be associated with each new migrant, but it will be large.  It will be a significant multiple of the first year’s labour supply of the typical new migrant.  It will, in other words, for several years exacerbate any aggregate shortages of labour, not relieve them.

Of course, quite a bit of physical capital is imported.  All those earlier estimates already, explicitly or implicitly, take those imports into account.  SNZ’s input-output tables suggest that across capital formation as a whole the import component isn’t high –  around 21 per cent in 2013.  That shouldn’t be surprising.  Buildings make more than half the physical capital stock, and although they have some imported components, there is a great deal of domestic labour (and domestically produced timber and concrete).  Accommodating more people simply adds greatly to the demand for employment over the first few years after they arrive.

Commentators and politicians who argue that migrants don’t take jobs away from New Zealanders are largely correct  (again, past modelling exercises confirm that sort of intuition).  They don’t do so –  and they don’t succeed in lowering aggregate wages –  precisely because influxes of immigration (or unexpected reductions in the net outflow of New Zealanders) add to demand –  for goods and services, but thus for labour –  more than they add to supply.    There are probably some sector-specific adverse wage effects –  in sectors where immigrant labour has been made particularly readily available –  but much the bigger determinant of overall real wage prospects in New Zealand is productivity growth.  Sadly, our record on that score over many decades has been poor. Over the last five years it has been shocking –  no labour productivity growth at all.    That, in turn, may be in part because of the effects of rapid population growth –  all that spending associated with more people crowding out (notably through a high exchange rate) activities that might have offered more productivity growth prospects.    Despite the political rhetoric to the contrary, there is no surprise that more people create more jobs –  always have, probably always will.  But there is also no surprise that as it was decades ago, is now, and probably ever will be, increased immigration doesn’t ease overall labour market pressures.

So too much of the New Zealand debate is simply misplaced.  If we want to deal with domestic unemployment, as we should, look to monetary policy (it was a point Frank Holmes made 50 years ago). In the current context, hire a Governor who will take seriously the ambition of non-inflationary full employment.  If there are sectoral market pressures, let wages in those sectors adjust –  that is what happens to tomato prices when tomatoes are in short supply.   And if we were serious about wanting sustained productivity growth –  as we should be –  it increasingly looks as though much lower levels of non-citizen migration would be the way to go.

On our woeful productivity performance, even the Reserve Bank is starting to openly recognise the issue.  This chart (using their estimate of TFP) was in the chief economist’s speech this morning

Figure 3: Potential GDP Growth

Figure 3: Potential GDP Growth

Source: RBNZ estimates.

Little investment –  as the Deputy Governor noted in his speech last week –  and almost no productivity growth, and simply lots and lots more people.  To what end –  beneficial to the average New Zealander –  one might reasonably wonder?


(Not much) investment in New Zealand

A few days ago I ran a post on the cross-country relationships between population growth on the one hand, and residential, government, and business investment on the other.   Using OECD data, averaged for each country over a couple of decades, it was apparent that (a) as one would expect, residential investment makes up a larger share of GDP in countries with faster population growth (people want a roof over their head, but (b) business investment as a share of GDP was smaller the faster the population growth a country had experienced.   New Zealand’s experience was quite consistent with these relationships.  That should prompt some introspection on the part of those –  bureaucrats, politicians, and other lobby groups –  who champion our large-scale non-citizen immigration programme, the largest such active migration programme (at least for economic reasons) in per capita terms anywhere in the world.

But today, I justed wanted to look at New Zealand’s own data on investment, and particularly the experience in the current cycle.    My starting point is this chart, using the components of gross fixed capital formation (“fixed investment” in the national accounts), as a share of GDP, going back to the 1987 when the official quarterly national accounts begin.

GFCF components to Mar 17

As I noted the other day, “business investment” isn’t an official SNZ category –  it would be great if they actually started publishing one –  but instead follows the OECD practice of subtracting general government investment (schools, roads etc) and residential investment from total investment.     It isn’t fully accurate, to the extent that some residential investment is done directly for the government (so there is some double-counting) but (a) the effect should be small, and (b) it is a consistent treatment through time.

And in case anyone is wondering what the spikes in 1997 and 1999 are, they are navy frigates.

Three things struck me from this chart.

  • First, total investment as a share of GDP (the grey line) has been rising quite strongly from the trough in 2009 and 2010, but
  • Second, total investment ex residential investment (the orange line) has barely recovered at all, and
  • Third, business investment (as proxied by the blue line) has not only barely recovered, but is now smaller as a share of GDP than in every single quarter from 1992 to 2008.   And this even though our population growth rate has accelerated strongly, to the fastest rate experienced since the early 1970s

The difference between the orange and grey line is residential investment.   It has picked up a lot as a share of GDP, but then it would have been extremely worrying if that were not the case.  After all, we had a series of destructive earthquakes in Canterbury, and huge volume of resources had to be devoted to simply restoring the existing housing stock.  And we’ve had a big acceleration in population growth.    Residential investment as a share of GDP is now higher than at any time in thirty years, although house and land price developments suggest that residential land is still being held artificially scarce.

Businesses invest when they see opportunities and can raise the finance (internally or externally to take advantage of the opportunities).     There will always be some financing constraints –  firms that don’t have the retained earnings or can’t persuade someone else to provide additional debt or equity –  but it is a little hard to believe that, as this stage of the cycle, those financing constraints are much different than usual.  It suggests that firms just don’t see the investment opportunities in New Zealand to anything like the extent they once did, even though the population is growing as fast as it ever has in modern times.     It is at least suggestive that the persistently high real exchange rate might be an important part of the explanation.

New Zealand’s quarterly national accounts data go back only to 1987, but the annual national accounts data go back to the year to March 1972.    Here is business investment as a share of GDP right up to the year to March 2017.

business investment to mar 17

Not much above recessionary levels (1991 or 2009), and showing no sign whatever of picking up.   And that is even though the population (and employment) are now much higher than would have been foreseen just a few years ago.    Investment goods do appear to have got (relatively) cheaper over time, but that seems unlikely to adequately explain how firms saw investment opportunities of around 12 per cent of GDP in the two growth phases, but only around 10 per cent now  (especially as we know we’ve now had no productivity growth for five years).

Statistics New Zealand also produces annual estimates of the capital stock.  The latest observation is for the end of March 2016, but the earlier charts suggest there is little reason to think the story for the most recent year will be any more encouraging when the March 2017 data are released later this year.  This chart shows the annual growth rate is the estimated per capita real net capital stock (excluding residential dwellings).

cap stock growth

This indicator uses all the non-residential capital stock (ie including that belonging to the government sector).  As government investment has held up more strongly than business investment (see the first chart above) and as employment has been rising faster than population, the picture for business investment per employee would probably look even more disconcerting.

And, of course, all the official capital stock numbers use reproducible capital only.  In New Zealand, in particular, land is a major input to significant parts of business production.   The quantity of land is fixed (improvements to the land are included in the investment numbers above), and that fixed quantity is spread over ever more people.

Given our very serious housing situation, with house price to income ratios among the highest anywhere in the advanced world, it should be a bit troubling when really the least poor bit in the investment data is residential investment.   But lest I inadvertently comes across sounding upbeat on that score, here is annual growth in the SNZ real residential capital stock per capita.

res cap stcok

But perhaps this too is some sort of “sign of sucess” or “quality problem”?    Most people, I suspect, would settle for signs that if we are going to have rapid policy-driven population growth, that businesses would then find it remunerative to invest much more heavily, whether in building houses or producing other stuff to sell here or abroad.




Squeezing out business investment

I was up early this morning to talk to the breakfast meeting of a Rotary club about immigration and economic performance in a New Zealand context (similar points to my LEANZ address last week, but shorter and a bit simpler).  I hadn’t been to a Rotary meeting for decades, since going to the odd one as a teenager as my father’s guest, and somewhat alien as it was (altogether too extrovert for me, especially at 7am), it was also rather inspiring –  people working together to make a difference in their community; some of George H W Bush’s “thousand points of light”.

In the course of my talk, I’d made my standard point that in New Zealand rapid population growth seems to have contributed to crowding out business investment.   Whatever the reason, over the decades business investment as a share of GDP in New Zealand has averaged around the lower quartile of what has happened in OECD countries as a group.  Driving home I remembered that a couple of months ago I’d downloaded all the data to help illustrate some of the stylised facts that bothered me, but had never gotten round to using the resulting charts.

All else equal –  and it never is –  a country that has faster population growth would normally be expected to devote a higher share of current output to investment than countries with slower population growth.  That observation isn’t exactly rocket science.  More people need more houses, and roads, and shops, and offices, and schools, and hospital, and factories.   A country with no population growth at all could simply maintain its capital stock per person by devoting enough of current output to capital expenditure to cover depreciation.  (To be clear, in all this I am using national accounts measure of investment (“gross fixed capital formation”), which (largely) measures resources devoting to building new stuff.)

Houses make up the largest single component of the reproducible capital stock (and almost half the total in New Zealand at present –  note that this is houses, not the land under them).    And since everyone needs a roof over their head, and almost everyone does, you would expect to find a materially larger share of current output devoted to house-building in countries with faster population growth rates.   There is lots of short-term cyclical volatility in house-building activity, so it makes sense to look at average over a long enough period to look through cycles.

In this chart, I’m looking at the period from 1995 to 2014 and looking across OECD countries.  I chose the period because quite a few OECD countries –  especially former eastern bloc ones –  don’t have data before then, and when I downloaded the data a couple of months ago a few countries didn’t yet have 2015 data.    One year won’t materially alter the picture.

res I % of GDP

New Zealand is the red dot close to the line (above population growth of about 27 per cent).

The slope has the direction you’d expect –  faster population growth has meant a larger share of current GDP devoted to housebuilding –  and New Zealand’s experience, given our population growth, is about average.     But note how relatively flat the slope is.  On average, a country with zero population growth devoted about 4.2 per cent of GDP to housebuilding over this period, and one averaging 1.5 per cent population growth per annum would have devoted about 6 per cent GDP to housebuilding.    But building a typical house costs a lot more than a year’s average GDP (for the 2.7 people in an average dwelling).     In well-functioning house and urban land markets you’d expect a more steeply upward-sloping line –  and less upward pressure on house/land prices.    But that isn’t today’s point, which was simply that more people has indeed meant more residential investment.

But what about the business investment picture?  In the data, business investment is a residual –  calculated by taking total investment and subtracting housing investment and general government investment.  Again, all else equal, you would expect a country with a faster population growth rate to have devoted a larger share of current output to business investment.  Workers need “tools”, and if economies are going to maintain their trajectory of growth in income per capita, then the growth in the capital stock needs to at least keep pace with the number of workers.

(You might wonder why I look across countries, rather than just across time within individual countries.  There are two reasons.  First, in many countries there isn’t much variation in population growth rates.  And second, to the extent there is, reverse causation may well be at work –  a booming economy will tend to draw in more people. )

But here is what the cross-country chart looks like.

Bus I % of GDP

Again, New Zealand is the red dot near the line.

There is plenty of variation –  not every observation is close to the line –  but there is no sign at all of the expected upward slope.  If anything, the regression line is downwards –  the faster population growth was across these countries in this period, the smaller the average share of current output devoted to business investment.  The (non-housing) capital stock per person will have been growing materially more slowly in the average high populaton growth country than in the low population growth countries.    The countries with material falls in population were all former eastern-bloc countries, who might be thought to have lots of convergence (and investment) opportunities anyway.  But even if one deleted them from the chart entirely –  and recall that we too were supposed to have lots of convergence opportunities –  the regression line is still very slightly downward sloping (basically dead flat).

It is a chart that should be pretty troubling.    Even a modestly upward-sloping line would still be weaker than ones prior might lead one to expect.

Some readers with more of a background in formal economic research don’t like these scatter plots at all.  They rightly note that it captures just a relationship between two variables, and there is a lot of other stuff inevitably missing.  The relationship may be causal, but it might not be.    One protection against that risk is the use of long period averages for 30+ countries.    But, as importantly, scatter plots of this sort have to be taken together with the wider context –  other stuff we know.

For example, is there a plausible mechanism that might account for such a relationship?  Well, the notion of “crowding out” is a pretty well-established one in the economics literature.  When the government increases its expenditure, the typical result (in a reasonably fully employed economy) is for private sector spending to fall.  Higher interest rates and a higher exchange rate are part of the mechanism by which that happens.   Whether or not there is a full offset is debated, but no one seriously doubts the mechanism or the direction of the effect.    Investment spending tends to be more sensitive than consumption spending, with the exchange rate channel making tradables sector activity (sales and investment) particularly likely to respond.

Increased demands associated with faster population growth may well work in much the same way.   The summary, scatter plot, data certainly isn’t inconsistent with such a story.   In the New Zealand context, one of the stylised facts we have to grapple with is that our real interest rates have been persistently higher than those in other advanced countries, and our real exchange rate has fluctuated around persistently high levels.  (And when I restrict the business investment chart only to countries with floating exchange rates, the downward slope is still apparent.)

So I don’t find the scatter plot in isolation conclusive, but it is troubling nonetheless –  and should be for those who like to invoke the empirical estimates of large per capita income gains from immigration, again in a cross-country context.  How likely are such gains, if countries with relative fast population growth rates (almost all, on account of high immigration inflows) are also the countries that, on average, have relatively modest levels of business investment?  Firms invest to take advantage of the new opportunities that arise.

I’ve asserted that high levels of planned immigration have a disproportionate effect on investment in the tradables sector.  These aggregate data don’t shed any light on that split –  they are just total business investment.   But, at least in a New Zealand context, it makes sense that things will have worked that way.   Higher real interest rates than in other countries –  unmatched by faster productivity growth – will deter all long-lived investment here, regardless of sector.  But when the exchange rate is also boosted, firms considering new investment in the tradables sector are exposed to a double-whammy: highest cost of capital, and a less competitive position relative to foreign firms.   Domestic demand tends to be strong in countries with fast population growth, while international demand is something New Zealand firms just have to take as given.   As our export share of GDP hasn’t been growing –  if anything shrinking –  while those in most other OECD countries have, it seems reasonably likely that investment in theNew Zealand tradables sector has been much weaker than otherwise, and weaker than that in the non-tradables sectors.  That weakness in tradables investment is likely to affect both our natural resource based industries (deterring more capital intensive modes of production) and in the struggling (where unsubsidised) other parts of the tradables sector.

For many countries, population growth isn’t that materially influenced by national policy.   In the former eastern bloc countries, the fall in population is about natives leaving.  In some other countries, illegal immigration can be a big issue.  But in New Zealand –  and Australia –  policy makes a big difference.   We have full control over our borders, and let in lots of legal non-citizen migrants.   In New Zealand, in particular, it looks as though discretionary policy choices have worsened the business environment, and in particular skewing things against the prospects for strong investment by firms that could successfully take on the rest of the world.

(In case anyone is interested, somewhat to my surprise I discovered that there is also a downward-sloping regression line when one plots general government investment and population growth.   I’d expected to find that the government investment just happened anyway –  governments not being subject to market tests.  But over these countries in this period it didn’t.  If, optimistically, you think that government investment is a complement to private investment in improving economic performance, that should be particularly worrying.  Even if the lagging government investment is just about keeping up with the numbers of schools and hospitals (say) a higher population requires, it doesn’t exactly look like a mark of success –  whether in New Zealand, or across the OECD.)


Switzerland as our example – again

A month or two back, the New Zealand Initiative arranged a study tour (Go Swiss) for members (and a friendly journalist), “to learn more about their success story”.

I’ve written about this a few times, mostly because I’m genuinely perplexed that the smart people who run the Initiative really seem to think that Switzerland is much of an example for us, or even these days that much of a “success story”.

Sure, Switzerland is richer and more productive than we are.  Most advanced countries are.  But productivity levels in Switzerland now lag behind those of the leading OECD countries.  And over the last 45 years or so, Switzerland has had the lowest rate of productivity growth of any of the OECD countries for which there is a full run of data.  Just a little worse even than New Zealand.

switz 70 to 15

If I were sponsoring a study tour to places that had put in really strong performances in recent times, the Czech Republic, Slovenia or Slovakia look like they might be rather stronger contenders.     They’ve been catching up quite rapidly, not drifting back in the pack.       The Slovakia picture looks particularly impressive.  Here is the Conference Board data on real GDP per hour worked for each of New Zealand, Switzerland and Slovakia, relative to the average for France, Germany, Netherlands, and the United States (four of the higher productivity large OECD countries).


Of course, New Zealand Initiative members are free to take their holidays wherever they like.   But it becomes of somewhat wider interest when they return trying to proselytise.

A few weeks ago the Herald’s Fran O’Sullivan provided a vehicle for some of that, relaying some rather questionable stories about the Swiss labour market (which does, among other things, feature a low youth unemployment rate), while ignoring such potentially relevant features as the absence of a generalised minimum wage in Switzerland.   Somewhat surprisingly, from a bunch of leading business people, Switzerland’s much lower company tax rate also wasn’t mentioned.  Then again, neither was its poor long-term productivity growth performance.

Sometimes the Initiative has been directly purveying the material.  Their chairman, Roger Partridge, had a piece in the Initiative’s newsletter recently extolling the contrasts between Italy and the Ticino, the Italian region of Switzerland.  “The secret to Swiss success”, so we are told, is down to “can solve”, reputedly the approach adopted by Swiss officials and politicians.    Now doing better than Italy isn’t such a great boast these days, but actually as the chart above shows, over the last 45 years Switzerland has done worse than Italy –  at least on productivity.  And then there are some of the summary indicators: on the World Bank’s ease of doing business index (not, of course, a perfect indicator of the state of regulation), Switzerland beats Italy by a substantial margin.  But Switzerland comes in at number 31.  New Zealand is number 1.

But what prompted this post was the editorial in the business section of this week’s Sunday Star-Times.   It doesn’t appear to be on the Stuff website, but if you go to this link to one of Initiative director Oliver Hartwich’s tweets, you can read an image of the whole piece.

Do you fancy living your lives more like the Swiss?…..It means entering into a radical experiment which could turn this country into another Switzerland.  A country with a high wage economy that manufactures and exports quality products, welcomes thousands of immigrants without any problems and has a fast and efficient public transport system

And, once again, we are told that

the ‘big picture” answer, according to the NZI, is in Switzerland’s decentralisation, where more than 2000 local councils have their own tax-raising powers.  Their argument is that it leads to greater pro-activity in devising strategies to attract business investment and power growth.

So, again, that would be the OECD country with the worst long-term productivity growth record?

And the other strand of the answer is, it is claimed, the education system.

Education is a dual system, which sees 80 per cent of young people enter vocational training, with only the remainder going to university.  But there is no stigma in that,

Then again, this is the OECD country with the worst productivity growth record over the last 45 years.  And, as OECD data I highlighted in the earlier post showed, actually a larger proportion of Swss 25-34 year olds have completed tertiary qualifications than in (a) most OECD countries, and (b) New Zealand.

One business leader is quoting waxing lyrical

As Fraser Whineray, boss of Mercury, said:  “an aluminium welder can be earning $150000 a year and living in a village like Queenstown”

I had no idea how much aluminium welders earn here, but this website suggests about $22.75 an hour.  That’s a bit under $50000 a year and given that Swiss GDP per capita is not even double New Zealand’s you’d have to be a little sceptical about that $150000 number (and this site offers some Swiss numbers).

But, picturesque as Switzerland is, what about the housing situation?

According to the New Zealand Initiative, as channelled by the Sunday Star-Times

Swiss house prices haven’t changed for three decades (inflation included) –  houses are still affordable compared to salaries.

The first part of that sentence is quite correct.    Real house prices (having had various ups and downs) haven’t changed much in 30 years.    But they were eye-wateringly expensive 30 years ago, and they still are today.   At the level of anecdote, I recall doing a course at the Swiss National Bank in 1990 and being told by our guides that prices in the capital Berne were so high that only senior managers at the central bank owned their own houses.

Good statistical data appears to be harder to come by: Switzerland is not, for example, in Demographia’s annual collection of house prices to median income data.   I stumbled across one website that offers data (of what quality I”m not sure) on rents and house prices in all sorts of cities.   Here is what they suggested for price to income ratios in various Swiss cities.

Zurich                                         9.5

Basle                                            9.2

Geneva                                       10.5

Lucerne                                      9.0

Berne                                        12.3

Whole country                       10.4

From what I could see, actual house prices don’t look any more “affordable” than those here (although, of course, interest rates are lower).  And, consistent with that, residential mortgage debt as a share of GDP is materially higher than that in New Zealand, in fact one of the highest ratios anywhere.

Oh, and how about home ownership rates?  Ours have been slipping, something that makes a lot of people uncomfortable (except a few –  economists mostly? –  who seem to have a vision that we’d be somehow better off if even more of us rented).  This chart is a subset of a table I found.  I’m sure not all the numbers are strictly comparable, and they are all for slightly different years, but I think most people will take New Zealand’s poor outcome over Switzerland’s any day.

home ownership

And, of course, none of this New Zealand Initiative material ever mentions the rather considerable advantages of location Switzerland enjoys –  at the heart of one of the wealthiest and most productive regions on earth, in an age when proximity and location seem to matter more than ever.    Or that, when international agencies look at Switzerland, one of the things they highlight most is the need for reforms to lift productivity growth.  The latest OECD report on Switzerland highlighted how relatively poor Switzerland’s productivity growth had been.  The press release for that report was headed “Focus on lifting productivity to guarantee future prosperity”, and part of the text read

The main objective has to be raising productivity, which will remain the key to boosting growth and maintaining a high quality of life and well-being.  The Survey suggests that Switzerland launch a new reform agenda to boost productivity, including renewed efforts to add flexibility to labour and product markets, improve public-sector efficiency, education and the business environment, and boost competition.  Increasing competition in the telecoms and energy sectors, including the privatisation of Swisscom, will be critical.

As I’ve said repeatedly, in many respects it would be nice to enjoy the material living standards the Swiss do, but……they are slipping backwards, and there is little sign that there is anything very systematic about how Switzerland does things that offers positive lessons for us, whether in beginning to reverse our dreadful productivity performance, or reverse our housing market disaster.

The mystery is why the New Zealand Initiative thinks otherwise.

But on a lighter note, I did find something from Switzerland that New Zealand could emulate.    I know Eric Crampton was one of those a bit upset about the loss of the rugby sevens tournament from Wellington.  Well, how about replacing it with office chair racing?  We spotted this on the BBC news the other night, and there is video footage here.  As the New Zealand capital of office workers, what better place than Wellington for a New Zealand leg of this sport.   Bowen Street looks as though it would offer a nice gradient, ending right in front of Parliament perhaps.  Think of the promotional opportunities.   It probably wouldn’t even take $5m of public money to get it going.