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Special Topic:  Should we worry about New Zealand’s trade concentration?

The meteoric rise of China up the ranks of New Zealand’s goods export markets has been one of the dominant economic developments in recent years. Having accounted for just 4.1% of New Zealand’s goods exports in 2001, China overtook Australia as our largest export market at the end of last year, accounting for 22% of goods exports in the 2013 calendar year.

The emergence of China has been a boon for New Zealand’s primary goods exporters. Strong demand has underpinned historically-elevated global prices for New Zealand’s exports – particularly for dairy and forestry – and China has become an increasingly important market for meat exports too. However, the speed of the transition has raised questions as to whether New Zealand is becoming too reliant on China.

Background

The economic literature argues that a lack of export diversification is likely to make an economy more vulnerable to changes in prices or demand for the goods and services that it exports. This, in turn, is likely to have negative effects on its export earnings and, ultimately, impact on the stability of the overall economy. Jansen (2004)[1] shows that this is particularly a risk for commodity exporting countries and that, by implication, such economies would benefit from diversifying their export bases.

As a small, geographically-isolated economy, New Zealand fits the paper’s description of a typically concentrated exporter. The intuition is that the relatively small size of the economy limits economies of scale and prevents large-scale industries from developing, and our isolated location presents another headwind in that we face relatively high transport costs for our goods.

How worried should we be?

So, how worried should we be by New Zealand’s trade concentration, particularly in light of the increasing importance of China?
Of course, New Zealand is far from alone in having seen China rise in importance as a trade partner over recent years. China’s trade share has risen for every country in the OECD over the past decade or so. Back in 2001, China was in the top 3 export markets for just two of the 34 OECD economies, and even these were its Asian neighbours Japan and Korea. Now it is ranked in the top 3 export markets for seven OECD members, and is the number 1 export destination for four of these (including New Zealand).

New Zealand’s goods export base is comparatively concentrated...

That said, New Zealand’s goods export base is amongst the least diversified of the OECD member countries, and it has become less diverse over the past decade or so. This is evident from looking at a number of measures, including the proportion of a country’s total goods exports that are exported to its largest export partners. As shown in Table 1, New Zealand’s five largest export markets accounted for 59.2% of total goods exports in 2013, relative to the OECD median of 52.0%. This represented a 3.8%-point increase from the corresponding proportion in the early 2000s, compared with a decrease in the OECD median over the same period.

Table 1 – Goods export trade shares (% of total)
Table 1 – Goods export trade shares (% of total).
Source: International Trade Centre

Another way of examining the extent of diversification in a country’s export base is to use export concentration indices calculated by the United Nations Conference on Trade and Development (UNCTAD). Such indices are calculated annually and build in additional information on the products that a country exports to give a single measure of a country’s trade concentration. The index is bounded between 0 and 1: the higher the concentration index, the more concentrated (ie, less diversified) a country’s goods exports. New Zealand’s latest concentration index of 0.17 is above the OECD median of 0.12 (Figure 8). Furthermore, New Zealand is one of only seven OECD member countries to have seen a significant increase in its concentration index between 2001 and 2012 (where we have defined a significant increase to be at least 0.05 in magnitude).

Figure 8 – Concentration indices
Figure 8 – Concentration indices.
Source: UNCTAD

...but less so than Australia’s

More striking, though, is how Australia – our traditional principal export market – fares in the same analysis.

Based on both measures of trade concentration identified above, Australia’s goods export base is both less diversified than New Zealand’s, and has changed to a greater extent over the past decade or so. Looking back at Table 1, Australia’s top 5 export destinations accounted for 68.6% of its total goods exports in 2013. This was a 19.8%-point increase from the corresponding share in 2001 – the largest change of any OECD member country. As for New Zealand, the shift was driven by increased trade with China, although the change for Australia was much more marked. The proportion of Australian exports that go to China (36.1% in 2013) is now by far the highest for any OECD member. The pattern is borne out in the UN concentration indices as well: out of the 34 OECD members, Australia saw the second biggest rise in its concentration index between 2001 and 2012, and ranks above New Zealand.

Increased trade concentration need not be a bad thing...

So what does this all mean? Clearly, the rising importance of China as an export market offers both opportunities and risks for New Zealand.

On the one hand, our comparative advantage in so-called soft commodity exports and our strong reputation for quality means that we are well placed for the planned rebalancing of the Chinese economy towards consumption. To the extent that the rising importance of China as a trading partner coincides with a structural shift in demand for New Zealand’s protein-based exports, this is likely to translate into a stable and dependable source of export demand in the future. Around 60% of New Zealand’s exports to China are food-related, principally dairy and meat (Figure 9).

Admittedly, our strong trade links with Australia expose us indirectly to the increased concentration of the Australian export base to China. As shown in Figure 9, over two-thirds of Australian exports to China are mining-related (mainly ores and mineral fuels). Such exports are much more closely aligned to Chinese investment activity, which has driven Chinese economic growth over recent years but is expected to ease as the economy rebalances. But even so, given that our main exports to Australia are not directly associated with the mining sector (they are dominated by gold, oil for refining, and cheese and wine), the indirect risks through Australia may not be too strong.

Figure 9 – Exports to China by product (top 5 export product categories, 2013)
Figure 9 – Exports to China by product (top 5 export product categories, 2013).
Source: International Trade Centre

More generally, the increasing clout of China in global food markets may deliver wider benefits for New Zealand exporters. For example, increased Chinese demand on the world stage looks to be ‘bidding up’ global prices across the board, and increasing the price that our other exporters receive – even those with a focus on our more traditional trading partners. This already appears to be the case for lamb exports. Meanwhile, deepening trade links may also open up new export markets for traditionally-regarded lower-end products, such as meat by-products.

...but it raises some risks and challenges

On the flip side, however, there are risks and challenges associated with an increasing concentration of trade with China (or any one trading partner for that matter). For example, our position as the ‘small partner’ in the trade relationship may limit our exporters’ ability to move up the value chain in later years. Indeed, while Chinese demand looks set to provide a stable base for future exports, such trade may increasingly be on their terms as buyers rather than our terms as sellers. This underlines the importance of exporters being ready to adapt to market conditions and to continue to look for opportunities to add value.

More generally, any increase in exposure to one trading partner raises the prospect of market-specific risks, ranging from cyclical fluctuations in demand to longer-term issues of market access. New Zealand’s experience when the UK joined the EEC in 1973 is an obvious example in this regard. The UK’s share of New Zealand’s exports was over 65% in the 1950s and was still around 40% in the early 1970s.

Factors which diminish the risks

Overall, though, there are a number of reasons why the current situation differs from previous instances in New Zealand’s history. 

First, our current trade concentration is by no means unprecedented from a longer-term perspective. Indeed, at around 22% of total goods exports, the proportion of New Zealand’s exports that went to the top trading partner in 2013 (China) was still only around half of the respective proportion when the UK dominated our trade in the early 1970s. Meanwhile, it is worth noting that
the respective shares of New Zealand’s top 5 and10 export markets have remained remarkably stable over the past 20 years or so (at around 55-60% and 65-70%). The rankings of some countries have changed, but the picture is certainly not one of increasing reliance on a small group of countries.

Second, New Zealand’s growing trade relationship with China is more a result of economic factors and market forces than the legacy-driven relationship with the UK. Moreover, in terms of products, our exports to China are relatively diversified, particularly when compared with Australia’s exports. Finally, another mitigating factor is that New Zealand has coping mechanisms in place, namely a floating exchange rate and flexible markets, to ensure that the economy’s resources are efficiently allocated and can move over time.

Conclusion

Overall, we see the increasing importance of China as a trading partner to New Zealand as more of an opportunity than a risk. While there may be hiccups along the way, and inevitable risks remain, New Zealand is well placed to benefit from mutual trade with China in the future.

Notes

  • [1]Jansen, Marion, Income volatility in small and developing economies: export concentration matters, World Trade Organisation, Geneva, 2004.
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