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Budget 2012 Home Page Budget Economic and Fiscal Update 2012

International Outlook

Trading partner growth outlook is more stable...

The trading partner growth outlook is similar to the forecasts underpinning the BPS, which were a significant downward revision from last year's Pre-election Update. The economic outlook became more stable in the months following the publication of the BPS as policy responses increased financial market liquidity and eased funding pressures in Europe and elsewhere. More recent developments, particularly those in Europe, highlight the fragility of the outlook.

Trading partner growth of 3.4% is expected over the year ending December 2012, just below the 30-year average growth rate of 3.6%. Natural disasters in Australia and Japan reduced their growth rates in 2011, but the recovery from these disasters adds to growth over 2012 and offsets weaker growth in the euro zone, the United Kingdom (UK), China and other Asian economies. The modest pace of economic recovery in the US is expected to continue over 2012. Trading partner growth is expected to be just above trend in 2013 as the recovery from 2011's dip becomes more broad based, strengthening to around 4% in the longer term, supported by New Zealand's increasing dependence on China and Australia. This outlook is very similar to those from other forecasters, including the International Monetary Fund (IMF).

Table 1.2 - Trading partner growth (years ending December)
2012
weights
2011
actual
2012
forecast
2013
forecast
2014
forecast
2015
forecast
2016
forecast
Australia 28% 2.0 3.0 3.2 3.0 3.0 3.0
China 15% 9.3 8.1 8.3 8.0 8.0 8.0
United States 11% 1.7 2.1 2.2 2.3 2.4 2.5
Euro area 9% 1.5 -0.6 1.0 1.4 1.4 1.4
Japan 9% -0.7 1.8 1.5 1.2 1.1 1.0
United Kingdom 4% 0.8 0.5 1.4 1.6 1.8 2.2
Canada 2% 2.5 2.0 2.1 2.4 2.4 2.5
Other Asia* 23% 5.0 5.0 5.2 5.1 5.1 5.2
Trading Partners 100% 3.2 3.4 3.8 3.8 3.9 4.0
Consensus (April 2012)   3.2 3.6 4.0 4.0 4.0 4.0
IMF(April WEO)   3.2 3.5 4.1 4.2 4.3 4.4

Sources: IMF, Consensus Economics, the Treasury

...but risks of slower growth continue to dominate

Most of the risks to the international outlook are oriented to weaker growth than forecast. Further policy measures are required to return sovereign debt to a sustainable path in Europe, the US and Japan. Failure to address these issues could lead to disruption in financial markets. At the same time, addressing the issues through tighter fiscal policy could reduce economic activity. A slowing in emerging market economies - for example, from a sharp fall in property prices - would lead to lower trading partner growth. There is also the risk of political tensions in the Middle East escalating and disrupting oil supplies. A sharp increase in oil prices could undermine the already fragile recovery in world growth.

On the positive side, there is potential for a sharp improvement in sentiment in the US and a subsequent lift in investment and activity more generally, financed from the large amounts of liquidity that have been injected in bank and corporate balance sheets, which would support faster trading partner growth.

China's Economic Growth: Past, Present and Future

Since the start of the liberalisation of China's economy in 1978 it has experienced average annual growth in real GDP of 10%, doubling the size of its economy every seven years (Figure 1.4). Its share of world output has increased from 2% in 1980 to 10% in 2011 (14% if allowance is made for its lower cost of living), becoming the second largest economy in the world after the US in 2010. China has become increasingly important to New Zealand in these past three decades, especially since its accession to the World Trade Organisation in 2001 and the conclusion of a Free Trade Agreement between the two countries in 2008.

China's share of New Zealand's merchandise exports increased from 2% in the earl 1980s to 12% in 2011, surpassing the US to become our second largest trading partner after Australia (Figure 1.5). China is also an important market for services exports (eg, tourism and education) and a source of consumer goods imports and foreign investment. China is even more important to Australia as its major trading partner, accounting for more than a quarter of merchandise exports, chiefly mineral resources (Figure 1.5). The close integration between New Zealand and Australia is an additional channel for China's economic influence on New Zealand.

Figure 1.4 - China's economic growth and share of the world economy
Figure 1.4 - China's economic growth and share of the world economy.
Source: IMF
Figure 1.5 - New Zealand and Australian goods exports to China
Figure 1.5 - New Zealand and Australian goods exports to China.
Sources: Australian Bureau of Statistics, Statistics New Zealand

New Zealand's and Australia's exports to China are dominated by agricultural and industrial commodities. China's increasing demand for these goods arises from the related processes of urbanisation and industrialisation, combined with rising living standards and changing diets and tastes. Demand for these commodities has increased rapidly since 2008 as a result of the Chinese Government's fiscal and monetary stimulus in response to the global financial crisis. Demand for minerals and energy from Australia, and dairy, meat and forestry products from New Zealand, increased sharply in that period, driving up the terms of trade for both countries.

However, growth in China is slowing and there are risks to its sustainability. Annual growth in real GDP eased to 8.1% in the March quarter 2012, down from its post-global financial crisis peak of 11.9% two years ago. The slowdown is largely the result of monetary and fiscal tightening to reduce inflation which reached 6.5% mid-last year, as well as weaker demand from Europe, China's largest export market. Authorities have signalled slower growth and are also aiming to cool the housing market which became overheated following the rapid credit growth in 2009 and 2010 in response to the global financial crisis.

So far, China appears to be achieving a managed slowdown in economic growth and we expect growth to average just over 8% in 2012 with some additional strength in the second half of the year carrying through to 2013. There are risks to this outlook, chiefly centred on a sharper-than-expected correction in the property market, possibly combined with an increase in bad debts in the banking sector arising from the rapid expansion of credit in 2009 and 2010. This possibility is explored in the Risks and Scenarios chapter. While the European sovereign debt crisis does not pose a direct threat to China through financial channels (given the generally closed nature of its financial markets), weaker export demand could lead to a further slowing in the economy. The Government has room to loosen both monetary and fiscal policy if growth slows more than expected.

We expect China's growth to slow in the longer term as a number of factors come into play. Rebalancing growth from investment and exports to private consumption (a stated aim of the Government) will result in lower overall growth as households are unlikely to fully replace high investment rates as a driver of growth. In addition, growth in the working-age population is expected to peak in the next few years, limiting the sources of economic growth to gains in labour participation and productivity. We also consider that China will not be able to sustain its average 10% growth rate of the past three decades as the most rapid gains in output have already been made and growth is likely to slow as per capita incomes catch up with the developed world. However, China's per capita GDP is still only 11% of the US's. We expect that even if there are short-term fluctuations in China's growth, it will continue to be an important market for New Zealand exports.

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