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Monthly Economic Indicators

Commentary

Production GDP fell 1.0% in the March quarter as the world recession hit New Zealand …

Real GDP fell 1.0% (seasonally adjusted) in the March quarter, following a revised 1.0% decline in the December 2008 quarter. Real GDP has now fallen in five consecutive quarters leaving output 3.0% below its December 2007 peak. The result was a little weaker than the market’s prediction of a 0.7% decline but similar to the 1.1% fall incorporated in the Budget Forecasts. On an annual average basis the economy has contracted by 1.0% in the year to March 2009, the largest decline since 1992 (Figure 1).

Figure 1 - Real GDP growth (production)
Figure 1 - Real GDP growth (production).
Source: Statistics NZ

... again led by falling manufacturing activity

Manufacturing output (excluding primary food manufacturing) fell 7.2% in the quarter and subtracted 0.8%pts (percentage points) from growth, which is the largest negative contribution from any industry (Table 1). The declines were across most types of manufacturing but were particularly strong in machinery and equipment manufacturing and the production of metal products. Increases in aluminium production are expected to provide a boost to the latter category in the June and September quarters.

The global economic downturn has been especially damaging to manufacturing industries, and while New Zealand industries have not fared as badly as those in some of the big industrial producers such as Germany or Japan, the 13% decline in domestic manufacturing output in the year ended March is similar to the 15% decline in global manufacturing output. We expect further falls in manufacturing as demand in New Zealand and the world contracts further before recovering later in the year.

Tighter credit conditions and heightened uncertainty about employment and income prospects contributed to weak domestic demand. Activity in both the retail and wholesale trade sectors declined, subtracting 0.5%pts from growth, their fifth consecutive negative contribution. Other services providers to experience weaker conditions included transport and communication, but these were more than offset by increases in business services and real estate, partly due to the pick-up in house sales. Government spending provided indirect support to growth through rising consumption spending and direct support to infrastructure, helping the construction sector post a small rise in the quarter.

Table 1 - Contribution to Quarterly Production GDP Growth
Table 1 - Contribution to Quarterly Production GDP Growth.

Weak domestic demand lowers real expenditure GDP…

Real expenditure GDP fell 0.7% in the March quarter led by a 7.3% fall in non-residential investment, echoing the depressed levels of business confidence in the quarter as the world economy slumped. Private consumption declined 1.3% in the quarter, its largest quarterly decline since 1991, as nervousness about the economic climate increased household saving despite increased cash flows from recent (and prospective) tax cuts, lower petrol prices and lower interest rates.

… but net exports provide support

Export volumes increased 0.6% largely due to an 11.9% increase in dairy exports as stocks were reduced, assisted by a 3.8% rise in travel services due to a higher per-visitor spend offsetting a decline in tourist numbers. Import volumes were down 8.6% on sharp falls in capital goods (-13%) and consumer goods (-6%). Imports of passenger cars fell 47% in the quarter. Overall, net exports contributed over 3%pts to GDP and trade data for April and May indicate a sizable positive contribution to June quarter GDP as well.

Growth to remain weak

In the Budget we forecast real GDP to decline 0.4% in the June quarter. Residential investment was stronger than expected in the March quarter leading to the possibility of a weaker June out-turn to align this with low levels of building consents. Developments abroad will continue to play a crucial role in the timing and pace of the eventual recovery. Our Budget Forecasts incorporate further declines in the annual average rate of growth, which we expect to fall to around -2.5% in the second half of the year.

Current account deficit narrowed…

Weak domestic demand also drove much of the fall in the annual current account deficit, which narrowed to $15.2 billion (8.5% of GDP) in the year to March from $16.1 billion (9.0% of GDP) in the year to December year 2008 (Figure 2).

Figure 2 - Annual current account deficit
Figure 2 - Annual current account deficit.
Source:  Statistics NZ

On a seasonally adjusted quarterly basis, there was a more dramatic narrowing of the deficit. The current account deficit in the March 2009 quarter alone (seasonally adjusted) was $2.7 billion (an estimated 6.0% of GDP), down $1.0 billion from the previous quarter to its lowest level since 2004. As with the annual deficit, the narrowing was driven by a fall in goods imports, particularly cars.

... as imports of goods fell sharply…

The seasonally adjusted balance on goods moved to a surplus of $863 million, the first quarterly surplus for the goods balance in six years. This move into surplus was primarily due to a decrease in the value of goods imports, as oil prices fell and weak domestic demand reduced import volumes across all categories. A fall in export values, driven by sharply lower dairy prices, and despite a rise in volumes, reduced the surplus somewhat.

The quarterly services deficit also contributed to the narrowing current account deficit. Services exports rose, as a higher per visitor spend more than offset declining numbers of inbound tourists and services imports fell due to lower transport costs associated with lower import volumes and fewer overseas trips.

... and the investment income deficit was relatively stable

The largest component of the current account, the deficit on investment income, grew to $3.3 billion from $3.2 in the previous quarter. We had expected falls in world interest rates to lead to a decline in outflows and, while this did not eventuate in the March quarter, it may become more evident in the future. Outflows from foreign investment in New Zealand did fall (eg, lower dividend payments) but were more than offset by a fall in income from New Zealand investment abroad.

New Zealand’s net international debt position increased to $177 billion (an estimated 98% of GDP), from $167 billion (93% of GDP) in December 2008. A net capital inflow of $2.0 billion contributed to this increase, but the biggest contribution was from net valuation changes of $7.2 billion reflecting falls in global share prices and changes in financial derivative contract values. The recovery in world equity prices in the last few months may see some of the rise in the net debt position reverse out in the June quarter.

Trade to drive deficit lower

Overall, the current account deficit was close to our Budget forecasts. Our forecasts predicted the current account deficit to fall below 7% of GDP by the end of the year as the annual goods balance moved into surplus over coming quarters.

Recent data showing a marked widening in New Zealand’s trade surplus over recent months supports this view. The trade surplus in May grew to $858 million from $319 million in April, the largest surplus as a percentage of exports since 1993, driven again by a fall in imports. In annual terms the trade balance remains in deficit by $3.1 billion, but is well down on the $5.6 billion deficit in the year ended December 2008. May trade figures showed exports to China almost doubled from a year ago on stronger dairy and forestry exports. While some of the rise in exports may have come from a fall in stocks, which will be a negative for GDP growth in the June quarter, it will still help the current account deficit contract. However, falls in stocks are one-off in nature and significant headwinds in the form of a rising exchange rate, higher oil prices and higher global interest rates reduce the prospect of a larger fall in the current account deficit. Moreover, with most of the contraction occurring on the imports side a stronger rise in exports is needed to ensure the contraction is sustained when domestic demand recovers.

Terms of trade continue to move lower

The merchandise terms of trade fell 3% in the March quarter as export prices slumped 8%, the largest quarterly fall since December 1957, outweighing a 5% fall in import prices (Figure 3).

Figure 3 - Merchandise terms of trade
Figure 3 - Merchandise terms of trade.
Source:  Statistics NZ

Lower dairy and aluminium prices (both -21%) were the primary cause of lower export prices and largely reflect the lagged effect of lower world commodity prices. The decline in import prices was mainly the result of lower petroleum product prices (-36%), and more than offset the exchange rate-driven rise in consumption and capital goods import prices.

Overall, the fall in the terms of trade is a little greater than we had anticipated, as oil prices were higher than expected and commodity export prices proved weaker. The ANZ commodity price index showed a 5% rise in world commodity prices for exports over the June quarter, although a stronger currency more than offset these gains. The stronger currency over the June quarter will also help push import prices lower, which will help moderate the downward trend in June.

June quarter data points to stabilisation …

The National Bank Business Outlook’s (NBBO) headline business confidence measure increased to a net 5.5% of firms expecting general business conditions to improve in the next year, up from a net 1.9% in May and the highest reading since May 2002.

Firms' own activity expectations, which give a better indication of GDP growth prospects, also rose. A net 8.3% of firms expect their own activity to improve in the next year, up from 3.8% in the previous month, signalling that the economy may not contract for the seven consecutive quarters we forecast in our Budget Update (Figure 4).

Figure 4 - Business outlook and GDP
Figure 4 - Business  outlook and GDP.
Source:  Statistics NZ, National Bank

Export expectations picked up slightly to a net 11% of firms expecting higher export volumes in the next year. The outlook for residential and commercial construction rose more sharply to a net +22% and +4% expecting more business respectively, adding further to evidence that the housing market has begun to stabilise. House sales are up over 40% from May last year and the trend for dwelling consents has been rising for four consecutive months. This rise is in line with our view that housing will cease to be a drag on growth in the second half of the year and contribute to stabilisation of the economy. However, prices will likely to continue to fall.

Despite the improvement in the headline business indicators, other indicators barely moved: a net 16% of firms expect to lower employment; a net 5% of firms expect to lower investment; and a net 24% of firms expect a fall in profits in the next year. The latter series fell below 40% late last year and this weakness accounts for a large part of the 25% fall in corporate tax receipts shown in the Government’s financial accounts for the 11 months to May compared to a year ago. Cuts in the headline corporate tax rate, from 33% to 30% in April 2008, also explain part of the fall.

... but rising dollar poses a threat

The strengthening exchange rate is one of the key factors holding back a more broad-based improvement in confidence. The trade weighted exchange rate (TWI) continued to move higher over the month, up 4% from May, to be 15% higher than at its trough in February. Much of the rise in the TWI has been driven by NZ dollar gains against the US dollar as investors have shifted their portfolios away from low risk US assets and into more risky, and higher yielding, alternatives.

With the currency higher, incentives to move production into the export sector are reduced and there is a higher risk that consumption growth dominates the recovery and perpetuates existing debt-related vulnerabilities. Recent commentary on the exchange rate has identified the unusually large volume of New Zealand dollar denominated bonds (Uridashi and Eurokiwi) maturing over July as likely to push the NZ currency down. How strong this effect will be remains to be seen - Reserve Bank research suggests that any effect on the currency around the time of maturity tends to be small, priced in by forward looking currency markets.[1] Nonetheless, early indications are that the currency is likely to experience a rise in volatility.

Household spending to remain weak

Consumer spending is likely to remain weak in the June quarter although it is unlikely to decline as steeply as in the March quarter. The Westpac Consumer Confidence Index returned to positive territory in the June quarter to reach its highest level in 18 months. The rebound is broad-based, led by an improvement in sentiment around the short-term economic outlook as some of the more dire scenarios for the economy did not eventuate. Even so, a net 28% of respondents still expect bad economic times over the year ahead (down from a net 57% in March). Retailers are likely to experience some improvement in sales with a net 16% of respondents saying now is a good time to buy a major household item, up 6%pts from the March survey and over 26%pts from June 2008.

The 0.5% rise reported in the April retail sales survey and the 1.6% rise in core Electronic Card Transactions provided further indications of a lift in household spending. Rising net inwards migration will also provide a boost to consumption and the housing market. The net gain of 2,700 in May, the largest gain since 2003, followed a rise of 2,200 in April and took the annual net gain to 11,200 (Figure 5). Overall, the likelihood of a further quarterly decline in private consumption have reduced since our Budget Update.

Figure 5 - Net migration and consumption
Figure 5 - Net migration and consumption.
Source:  Statistics NZ

Further signs of stabilisation internationally

World economic data provided further endorsement of the stabilisation picture. Backward looking activity indicators remained weak but forward looking indicators are continuing to improve, albeit remaining negative. The OECD revised upwards its projections of world growth, the first time it had done so in two years, most clearly for the non-OECD countries and the US but also to some extent for Japan. The OECD commented that the more balanced distribution of risks was more significant than the upward revision to growth. Nonetheless, they continued to view the ensuing recovery as weak and fragile for some time. June Consensus forecasts for trading partner growth were unchanged for the third consecutive month at -2.2% for 2009. The outlook for 2010 was revised up a shade to 2.1%.

Central banks around the world generally kept monetary policy rates on hold. The RBNZ held the OCR at 2.5% but commented that the risk to activity remained weighted to the downside, pointing to the rise in the currency as a key risk to the sustainability of the expected recovery, and saw room for the OCR to move modestly lower over coming quarters. The Reserve Bank of Australia kept the cash rate at 3%, but considered that there was scope for further easing if that were needed to support domestic demand.

Budget Forecasts on track

The key GDP, current account, unemployment and trading partner growth statistics have come in close to forecast for the March quarter. The Quarterly Survey of Business Opinion, released on Tuesday 7 July, and the Consumers Price Index released on Thursday 16 July provide the key indicators on economic performance next month.

Notes

[1] An update on Eurokiwi and Uridashi bonds, Reserve Bank Bulletin, September 2005.

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