Domestic Outlook (continued)
Economic Forecast Changes Since Budget Update 2011
The forecast level of real GDP in this Budget Update is lower than in recent forecasts, but is similar to that presented in the downside scenario in the 2011 Budget Update.
- Figure 1.10 - Real GDP forecasts in recent Updates
- Sources: Statistics New Zealand, the Treasury
In that scenario, world economic growth slowed, the terms of trade fell and business and consumer confidence weakened. This resulted in weaker real and nominal GDP growth.
The world economic outlook did deteriorate over the second half of 2011, but to a lesser extent than in the downside scenario. Other factors contributing to the weaker growth outlook since Budget 2011 include a delay in the Canterbury rebuild, a stronger currency and revisions to GDP outturns.
Compared to the main forecast in the 2011 Budget Update, aggregate price pressures in the economy have been weaker than expected, reflecting the strength of the exchange rate, lower commodity prices and a greater degree of spare capacity in the economy. As a result, the level of GDP in current prices in the 2012 Budget Update has been revised down towards the levels in the downside scenario.
- Figure 1.11 - Nominal GDP forecasts in recent Updates
- Sources: Statistics New Zealand, the Treasury
GDP in current prices provides the base for tax revenue forecasts. In the downside scenario, lower nominal GDP led to tax revenue being $5 billion lower over the four year period ending June 2015 than in the main forecast. In the 2012Budget Update, nominal GDP is higher than in the downside scenario but forecast tax revenue over the four-year period ending June 2015 is similar. In other words, the ratio of tax to GDP in the current forecasts is lower than in previous forecasts.
One of the main contributors to the lower tax-to-GDP ratio is the current high level of goods and services tax (GST) refunds, which are being boosted by insurance settlements following the Canterbury earthquakes. Insurance settlements include GST, which entitles insurance companies to a refund from Inland Revenue (IRD). This reduces net tax revenue until the claimants incur GST on their purchases. While temporary, the impact remains significant until the bulk of the insurance settlement are spent.
While the initial phases of the rise in residential investment are driven by the Canterbury rebuild, activity in the rest of the country is forecast to become increasingly significant over 2013. The national demand for housing is supported by past population growth, expected future population growth, rising household incomes, falling unemployment and repair of leaky homes.
...and business investment strengthens
Business investment is forecast to continue rising, picking up pace over the second half of 2012 as the rise in business confidence over the first half of 2012 and the imminent Canterbury rebuild impact on firms' decisions.
- Figure 1.12 - Real business investment
- Sources: Statistics New Zealand, the Treasury
The Treasury's estimate for the damage to commercial and infrastructure assets remains $7 billion (in 2011 prices), but is subject to a large degree of uncertainty. The Canterbury rebuild is expected to provide increasing support for non-residential investment particularly in the period beyond March 2013, while other construction related to the Canterbury rebuild is assumed to be spread more evenly over the forecast period. With the Canterbury rebuild underway, and continuing support from low interest rates and the high exchange rate, business investment growth is forecast to rise to 14% in the year ending March 2014 and to reach an historically high share of 24% of real GDP. The pace of business investment slows over the remainder of the forecast period, reflecting the lower exchange rate and rises in interest rates.
Government spending growth slows...
Real government consumption is forecast to fall in the year ending March 2013, as some of the temporary spending related to the Canterbury earthquakes is withdrawn and growth in other government spending slows. Government spending restraint in Budget 2012, and in earlier Budgets, is reflected in a reduction of government spending on goods and services as a share of real GDP (government transfer payments, such as Working for Families, are captured in private consumption). Estimates of the cyclically-adjusted operating balance show fiscal policy is withdrawing demand from the economy in each of the forecast years, with a peak contraction of almost 2% of GDP in the fiscal year ending June 2014.[2]
- Figure 1.13 - Real government consumption
- Sources: Statistics New Zealand, the Treasury
Although government consumption expenditure continues to increase in current prices, and increases in inflation-adjusted (or constant) prices after the year ending March 2013, it grows more slowly than the rest of the economy. As a share of real GDP, government consumption declines from 18.7% in the year ending March 2012 to 16.6% by March 2016.
Partly offsetting the reduction in consumption demand, real government investment is forecast to grow at an average rate of 4% over the forecast period, reflecting the Government's ongoing social infrastructure investment programme. More generally, the reduction in demand from fiscal policy is more than offset by the increase in private sector demand from the Canterbury rebuild and other parts of the economy.
Good farming conditions lift commodity exports volumes...
Exports of goods increased 2.9% in the year ending December 2011, led by strong growth in dairy volumes. The RWC contributed to a 0.6% rise in services exports, with much of the positive impact offset by weakness in other tourist arrivals owing to the natural disasters in Canterbury and Japan, and generally weak demand in many of the traditional tourism markets. Together, goods and services exports rose 2.4% in the year ending December 2011.
Export growth is expected to slow to around 2% in the year ending March 2013 and 1% in the following year, as farming conditions return to normal and the elevated exchange rate constrains profitability. The assumed weakening of the exchange rate over 2015 and 2016 is forecast to lift volume growth to 2% per year over the final two years of the forecasts.
...but growth slows as conditions return to normal...
- Figure 1.14 - Export volume growth
- Sources: Statistics New Zealand, the Treasury
The assumption of a return to normal farming conditions is reflected in lower commodity export growth. Dairy export volumes, up 9.9% in the year ending December 2011, are expected to rise further before falling back when the current season ends and conditions revert to normal.
Thereafter, ongoing productivity gains and investment in the dairy industry result in a rising profile for dairy export volumes. The meat industry is also benefiting from good farming conditions, but the trend decline in the sheep flock is expected to continue, with an offset from a larger dairy herd resulting in stable meat export volumes. Forestry export volumes are also forecast to remain stable, reflecting steady demand in an industry that is operating close to its maximum sustainable harvest rate. Some other commodity exporters, such as kiwifruit and pip fruit growers, are finding conditions challenging.
Notes
- [2]For more details, see the Additional Information on the Treasury website www.treasury.govt.nz
