Opinion: "Tunnel to China" trade philosophy threatens NZ economy

By Rachel Pannett of NZPA

Friday 3rd March 2006

Figures out this week show New Zealanders' lust for flat-screen TVs and gas-guzzling 4WDs has seen the country dig a trade hole deep enough to stretch all the way to China.

While the notion of tunnelling a link to Asia makes great material for a childhood fantasy, in the real world the $7 billion gap between what New Zealand earnt from exports versus what it paid out for imports in the January year raised a red alert about the state of the economy.

"We've been trying to borrow and spend our way to growth, rather than earn it and that is unsustainable," ANZ's acting chief economist, Cameron Bagrie, said.

"The day of reckoning is going to come."

Spiralling fuel costs drove the trade blow-out, which, as a percentage of exports, was the highest annual shortfall since the oil crisis of 1976.

Forecasters now expect the March quarter current account, which adds financial transactions to the merchandise trade data, measuring all the country's dealings with the outside world, to reach a deficit equal to 9% of GDP.

It is not unusual for New Zealand's accounts to be in the red. The last trade surplus was recorded in 1973.

But a housing boom, high flying economy and strong labour market have put pressure on imports , stretching New Zealand's balance sheet from its usual deficit of under 5% of GDP.

The rising trade deficit is troubling as it will discourage the offshore lenders who, chasing the country's relatively high yields, have funded the recent economic boom.

"If you look at the fundamental basics of the trade position, we spend more than we earn," Bagrie said.

"That's fine as long as someone is willing to underwrite our spending habits.

"The problem is that the growth picture doesn't look so flash, interest rates are going to fall and interest rates around the globe are rising, so investors are seeing viable substitutes."

The European Central Bank on Thursday hiked its cash rate to 2.5% - the highest level in three years. The United States is on an upward trajectory and even Japan, which has been battling deflation, is talking of modifying its ultra-loose stance.

The litmus test of offshore yield appetite will come next week, when the Reserve Bank meets on March 9 to assess interest rates, and a day later when nearly $1 billion worth of kiwi dollar bonds - used to fund retail bank lending - mature.

Most economists expect the RB to leave the official cash rate unchanged at 7.25% - the highest yield in the developed world, but will be eyeing the accompanying statement for overtones.

If Governor Alan Bollard treads softly - indicating a rate cut sooner than the market consensus of September - investors may elect not to roll over the bonds.

Like a slap on the wrist from an international bank manager, that will force a rethink of the borrow and spend philosophy pervading the consumer and corporate sectors.

Infometrics economist Andrew Gawith said withdrawing the "revolving credit" wouldn't be all bad - killing demand for imports would help balance the trade deficit.

He said businesses have gone on a "spending spree", buying up plant and machinery, and that hasn't translated into obvious productivity improvements.

A huge amount of investment has also gone into the labour market .

"As the economy tightens up, that will force them to get better returns from both their labour and their capital," Gawith said.

"I wouldn't like to overplay the idea that a lull in investment is no bad thing, but, for the time being, I'm relaxed about it."

Next week will be D-day for the New Zealand dollar. If a rate cut is mooted and the kiwi dollar bonds aren't rolled over, the local unit could drop like a stone.

"When it goes, it is going to go a country mile pretty quickly," Bagrie said.

He said the exchange rate, rather than Reserve Bank cash rate decisions, would dig the economy out of the current hole.

A cross rate of around US60c is seen as more favourable level for exporters, compared with the current US66c , and anecdotal evidence suggests that even the modest fall of recent weeks is making a difference.

John Walley, chief executive of the Canterbury Manufacturers' Association, said that although the association's latest survey showed a 5 percent fall in total sales in January, there were grounds for optimism.

"Talking to people to put some tone around the numbers, things might just be starting to look up a bit, with the fall off in the New Zealand dollar," Walley said.

"It's a change in attitudes at this stage, rather than a change in balance sheets or income statements."

Climbing out of the trade hole won't be easy.

Bank of New Zealand economist Craig Ebert said exports needed to grow 2% faster a month than imports, just to stabilise the trade balance.

"It will take time for a correction in the New Zealand dollar to be reflected in trade flows."

Gawith said while some companies had survived the tough trading conditions of the past three years, those on the margins would take some convincing to re-enter the export market.

"The kiwi's recent fall is hardly going to encourage them to get back into exporting in a big way if they think that in five years' time they'll be fried alive again."

There is also the spectre, raised by weak economic data in recent weeks, of a recession.

ANZ Investment Bank economists aren't buying into the recession scenario, but are predicting a trifecta of 25 basis point rate cuts in September, October, and December to cushion a slowdown.

This week's trade data sounded a warning about our reliance on offshore capital.

"Eventually you need to adjust your spending behaviour to reflect the earning capacity of your economy," Bagrie said.

With a looming gas shortage and high oil prices likely to stay, New Zealand must become more fuel efficient.

That means core exporters in the dairy, meat, and forestry industries should export higher value products in lower volumes - marketing pharmaceuticals or proteins, not tonnes of milk powder or bales of yarn.

Unless we turn our hole-digging abilities to the Taranaki and uncover a significant oil field, however, a return to the surpluses of the past will be a rare day.

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