New Zealand's growth rates are likely to lift substantially over the next three years
The economic forecasts envisage an acceleration in growth to levels last seen in the first half of past decade. Continued growth in key trading partner economies, high export commodity prices, the receding effects of the global financial crisis and the stimulus from Canterbury reconstruction are the principal contributors.
Trading-partner growth and export commodity prices are high
- Figure 1 – Trading-partner growth
- Source: International Monetary Fund, The Treasury
Global growth has rebounded as the worst of the global financial crisis has receded. Trading-partner growth has lifted from -0.5% in 2009 to 4.5% in 2010 and is expected to average around 4% over the next few years.
This has been most apparent in export commodity prices, which are high across the board. The terms of trade has risen 19% since September 2009. A visible indication is Fonterra's dairy payout which is expected to be in the range of $7.90 to $8 per kg of milk solids this year. While there are likely to be some temporary adverse supply factors impacting on export prices currently, the underlying driver of strong demand is expected to see export prices stay strong for some time.
There are some offsets, with global oil prices having increased by 30% over the year to April 2011, but the net effect has still been for New Zealand's terms of trade to reach its highest level since the early 1970s.
- Figure 2 – Long-term terms of trade
- Source: Statistics New Zealand
The exchange rate is partly offsetting favourable terms of trade
The high New Zealand dollar has hindered the ability of exporters to take full advantage of higher trading-partner growth. Services exports such as tourism and education have been particularly held back. The exception is the cross-rate against Australia. Australia's terms of trade has increased nearly 40% over the past five years. The Australian dollar has strengthened accordingly, and New Zealand exporters have benefited directly.
On balance, the trade-weighted New Zealand dollar remains well above longer-term averages, and at a level which makes attaining external balance difficult. The forecasts include a technical assumption of slow reversion to trend for the currency, though as always a wide range of outcomes is possible.
- Figure 3 – New Zealand dollar/Australian dollar bilateral exchange rate and the trade-weighted index (TWI)
- Source: Reserve Bank of New Zealand
Households and businesses are increasing their saving
Over the past year, households, farmers and businesses have remained cautious and looked to strengthen their financial positions. The ratio of household debt to disposable income, which had been rising continuously for the past 20 years, reversed and showed modest declines in 2010. After growing around 14% per annum between 2005 and 2008, private sector credit growth has fallen away with the level of credit in March 2011 little changed from a year earlier. The portion of household income needed to service debt has fallen from over 14% to under 11% during the past two years, owing to a combination of falling interest rates and a slowdown in debt accumulation.
These are necessary pre-conditions for moving the economy onto a more sustainable footing. Household consumption is not expected to lead the increase in growth but, over time, households are forecast to experience higher income growth. After adjusting for the one-off impact of insurance receipts in 2010/11, the Treasury forecasts disposable income growth of over 5% in nominal terms, or around 3% in real terms, on average over the next four years. This, together with households becoming more comfortable with their financial position, is expected to see their spending move more in line with income growth.
- Figure 4 – Private consumption and disposable income growth
- Source: Statistics New Zealand, The Treasury
Note: Disposable income has been adjusted for insurance receipts in 2011.
Higher saving is being reflected in a reduced external deficit
In aggregate, private saving increased over the past year. This, combined with reinsurance flows associated with the earthquakes, means the current account balance is likely to have temporarily recorded its first annual surplus since 1973.
- Figure 5 – Current account deficit
- Source: Statistics New Zealand
The reconstruction of Christchurch will be a material stimulus
The Treasury's forecasts assume that $15 billion is spent repairing, replacing or renewing damaged properties over the next seven years. Rebuilding is expected to get fully underway in early 2012 and accelerate quickly thereafter. Rebuilding is likely to add over 1.5% to the level of GDP in each of 2012/13 and 2013/14, broadly coinciding with the planned withdrawal of fiscal stimulus. Construction activity is expected to remain high for most of the 2012 to 2015 forecast period, with the peak level of activity likely to exceed the peak experienced during the past decade. Private consumption is also likely to be higher as possessions are replaced. Some of the higher investment and consumption will be met from imports, meaning the forecast current account deficit will be higher than otherwise.
- Figure 6 – Timing of Christchurch rebuilding
- Source: The Treasury
Rugby World Cup
Real GDP growth is expected to pick up as 2011 progresses. The Rugby World Cup in late 2011 will attract tens of thousands of visitors to New Zealand and will provide a material boost to the economy. Its contribution to GDP is expected to be approximately 0.3% over the second half of 2011.
Growth is expected to accelerate in the second half of 2011 and through 2012
Taking these factors into account, growth is projected to lift strongly over the next two years. Growth since the global financial crisis has been weak, owing to both direct effects of weaker export demand and indirect effects as debt-funded consumption and investment have been wound back and savings rates have lifted.
The headwinds from this phase are abating. Global growth, particularly from emerging Asia, remains strong. New Zealand's trade patterns are rapidly switching towards this region. Domestically there remains spare capacity in the economy, and underlying inflation pressures remain weak. It is likely that as momentum gathers monetary policy will shift back towards a more normal stance, though neither the Budget forecasts nor the markets believe this will be particularly rapid. The extent of the stimulus from the Christchurch rebuild, especially beyond that region, is an imponderable that adds to current forecast uncertainty.
On balance, growth is likely to lift substantially from a low base, for a time exceeding the potential growth rate of the economy as spare capacity is reduced. The projected growth rate of 4% to March 2013 would be the strongest since 2004. As a result, employment is forecast to increase by over 170,000 from the end of 2010 to June 2015 and the unemployment rate to fall to 4.5%.