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Budget 2017 Home Page Budget Economic and Fiscal Update 2017

Recent Developments

Economic expansion has continued at a solid pace

Economic growth accelerated over the course of 2016, underpinned by migration inflows, construction activity, business investment and low interest rates. Real production GDP growth increased from 2.5% in 2015 to 3.1% over 2016, while on a per capita basis, GDP growth increased from 0.6% to 0.9%. Recent revisions from Statistics New Zealand have altered the level of GDP. See the GDP revisions and their implications box on page 9for more detail.

Migration is a key driver of growth, with fewer New Zealanders than usual leaving and more non-New Zealanders arriving. Rapid population growth supported an acceleration in private consumption growth to 4.2% at the end of 2016 - its highest rate since the global financial crisis (GFC). Both real residential investment and business investment growth rose over 2016.

Growth in real goods exports eased in late 2016, continuing a slowdown that has been underway since 2015. Real services exports growth also slowed over this period and, as a result, growth in total exports eased. The current account deficit remained around 3% of GDP over most of 2016 but narrowed to 2.7% in the December quarter as a recovery in export returns lifted the terms of trade.

Spare capacity remains in the labour market with an unemployment rate around 5% and low wage growth. Our estimate of the output gap averaged -0.6% in 2016. Food and oil price movements drove headline inflation above 2% in the March quarter 2017 for the first time since 2011. Inflation excluding food and fuel prices remains subdued, indicating underlying inflationary pressures remain soft. Monetary policy continues to remain accommodative.

Relative to the Half Year Update, near-term momentum in the economy has been a little weaker than anticipated, with real GDP growth weaker than forecast in the second half of 2016. Residential investment and house price growth slowed towards the end of the year (discussed further in the Recent developments in residential investmentbox, page 13). However, nominal GDP growth was higher than forecast, in line with an uplift in the terms of trade owing to rising dairy prices.

March quarter CPI inflation and labour market data were released after these forecasts were finalised. The outturns point to slightly more inflationary pressure and a tighter labour market than anticipated in the Budget Update outlook, but do not materially alter our view on underlying spare capacity in the economy in the near term.

As a small, open economy, New Zealand's growth is particularly affected by external flows of people, goods and services, which can turn around quickly. This means that there are risks and uncertainty attached to any set of forecasts. Likewise, relationships between economic variables, such as between household debt and consumption, may play out differently from those in these forecasts. The Risks and Scenarios chapter expands on such risks further.

GDP revisions and their implications

GDP is an important time series for compiling forecasts in the Economic and Fiscal Update,with forecasts of nominal GDP underpinning forecasts of tax revenue. In addition, a number of key metrics - such as net debt and the current account deficit - are often expressed as a percentage of GDP to assist with comparability over time.

GDP data and its sub-components are the subject of revisions by Statistics New Zealand as new information comes to hand. Annual GDP data (on a March year basis) are compiled using more comprehensive sources and methods than is the case for more timely quarterly data. As new annual data become available, changes are often made to earlier quarterly data.

When the Half Year Update forecasts were prepared, quarterly GDP data were available through to the June 2016 quarter. Subsequently, annual data for the year to March 2016, as well as quarterly data for the September and December 2016 quarters, have been published.

Nominal GDP revisions

Annual nominal GDP in the year to June 2016 has been revised higher by around $1.3 billion or 0.5% (Figure 1.1). Revisions of this magnitude are not unusual. The main factor behind the revision was a $2.0 billion increase to private consumption, largely relating to the consumption of services. Government consumption was revised up by a smaller amount while residential and other investment were revised down.

Figure 1.1 - Annual Nominal GDP
Figure 1.1 - Annual Nominal GDP.
Sources: Statistics New Zealand, the Treasury

Revisions to nominal GDP affect the base level from which economic activity expands. With the starting point now $1.3 billion higher, in the absence of other forecast changes we would expect the cumulative level of nominal GDP to be approximately $6.5 billion higher in the five years to June 2021. These changes generally do not influence forecasts of tax revenue as, while GDP is higher over history, the level of historical tax revenue is unchanged. This means that effective tax rates used when forecasting tax revenue will be lower.

Real GDP revisions

Revisions to both the expenditure and production measures of real GDP acted to move the two series - which conceptually should be the same but in practice differ owing to different data and estimation techniques - closer together. Real expenditure GDP for the year to June 2016 is now 0.4% higher than was apparent in the data available when the Half Year Update forecasts were prepared, while real production GDP is 0.7% lower.

As a consequence, despite a stronger outlook for real production GDP growth than was contained in the Half Year Update, the level of real production GDP remains below the Half Year Update level until the second half of 2019.

Data revisions can also influence views on the likely pace of future growth. When GDP for the September quarter 2016 was released, production GDP was thought to have grown 1.1% in the quarter and expenditure GDP by 1.4%. These have subsequently been revised down to 0.8% and 0.9% respectively. When combined with weaker-than-forecast growth in the December quarter this has changed our view of the extent of momentum in the economy.

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