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Monthly Economic Indicators

Special Topic: World economic outlook

The outlook for the world economy has changed significantly since we prepared the Budget Update earlier in the year. With the incipient recovery in the world economy since then, the economic outlook for our trading partners has been revised up substantially. However, subsequent growth is expected to be relatively constrained.

March quarter represented low point …

The global financial crisis impacted the level of output in the major advanced economies via the cost and availability of credit, falls in business and consumer confidence, and a loss of wealth as the value of houses and financial assets declined. Demand for consumer durables (e.g. cars, appliances and electronic goods) was particularly affected and businesses cut back production even more sharply in order to reduce stocks. These developments led to sharp falls in economic activity in the December 2008 and March 2009 quarters in most of our major trading partners.

… and was reflected in forecasts at the time

As the crisis impacted on output, forecasts for the world economy were revised down progressively. In their April World Economic Outlook (WEO), the IMF expected global output to contract 1.3% in 2009 and grow only 1.9% in 2010. Consensus forecasts for New Zealand's top 12 trading partners stood at -2.2% in 2009 and +2.0% in 2010 in March 2009 when we finalised the Budget forecasts (Figure 7). Anticipating further downward revisions, we assumed a contraction of 2.5% in 2009 and growth of only 1.0% in 2010.

Figure 7 – Evolution of Consensus forecasts
Source: Consensus Economics

Recovery commenced in the June quarter …

The world economy began to recover in the June quarter as the massive government and central bank interventions stabilised financial institutions and markets, stimulated final demand and restored confidence to businesses and consumers. Rapid re-stocking of previously depleted inventories, especially in Asia, also contributed to the recovery. There was increasing talk of "green shoots" as Purchasing Managers' Indices in the major economies firstly stopped declining and then recovered to 50, indicating an expansion in output.

… as credit conditions eased and China grew

One of the major factors in the resumption of growth in the major economies was the restoration of more normal conditions in financial markets. Credit spreads (the gap between inter-bank interest rates and expected policy rates, a measure of risk and uncertainty) have declined to pre-crisis levels in the US. While credit conditions have eased significantly internationally, they remain tighter than normal. The easing in global credit conditions has made it easier for New Zealand banks to borrow offshore, but conditions remain tighter than normal for local firms.

Another significant factor in the recovery in world output, especially for New Zealand and Australia, was the continuation of strong growth in China. A large fiscal stimulus and associated credit expansion were directed at infrastructure investment, especially railways and rebuilding following the 2008 earthquake, but also included support for consumption with subsidies for household goods and cars. The surge in investment spending resulted in strong import demand for commodities, including logs from New Zealand. The 8.9% growth in the Chinese economy in the year to September 2009 also led to a recovery in emerging Asian economies and supported growth in Australia, our major trading partner. The Indian economy also grew strongly, with annual growth of 6.1% in June 2009.

Indicators of economic activity lifted …

Indicators of economic activity have also turned around since the March quarter. Share markets troughed in the March quarter as the Dow Jones index briefly fell below 7000, down more than 40% from its peak in mid-2008. It has since risen more than 50% from that low to 10,000 in mid-October. Similarly, commodity prices troughed in late 2008 – early 2009; oil prices fell below US$40 per barrel in late 2008 and again in January – February 2009, but climbed to year-ago levels of above US$80 per barrel in mid-October. There was a pull-back in these prices in late October.

The average world price of New Zealand's commodity exports fell 34% from July 2008 to a low in February 2009; it has since recovered 20% but remains well below its previous peak. The rise in commodity prices, combined with a positive interest rate differential, a more positive economic outlook and increased investor risk appetite, has led to increased demand for the New Zealand dollar which had fallen from US 80 cents a year before to below US 50 cents in March 2009; it has since appreciated to US 76 cents in mid-October but eased in the final week of the month.

… and world growth forecasts were revised up

As the global economy has begun to recover, the outlook has also been revised up. The IMF upgraded their forecasts for world growth in their October WEO to -1.1% in 2009 and 3.1% in 2010. Consensus forecasts have also been revised up from their low point earlier in the year, with the average for our top 12 trading partners (weighted by export shares) rising to -1.3% for 2009 and 2.9% in 2010, almost 1 and 2 percentage points higher than our Budget forecasts (Figure 8).

Figure 8 – Trading partner growth forecasts
Figure 8 – Trading partner growth forecasts>.
Source: Consensus Economics, Treasury

But growth will be relatively constrained

Despite the significant shift in the outlook for the world economy since we prepared the Budget Update and the relatively quick recovery, growth further out is likely to be lower than in the previous period of expansion, for a number of reasons.

  • Deleveraging: households, firms and governments all need to reduce their debt and rebuild their balance sheets, leading to lower consumption and investment growth.
  • Housing and labour markets will take time to adjust following the downturn, limiting consumption; house prices may have further to fall in some countries and unemployment will continue to increase until at least mid-2010.
  • Monetary and fiscal stimulus must be withdrawn at some point, but not yet, with a negative impulse to growth.
  • Credit growth is likely to be lower as monetary policy is tightened and policies are introduced aimed at restricting credit growth and avoiding a recurrence of the financial crisis.
  • Macro-economic balance, both within and between economies, has not yet been achieved. The rebalancing between the US and China is expected to lead to lower growth overall as they become less dependent on the US consumer.
  • Financial crises tend to depress the path of output in the medium term as a result of the impact of the crisis on employment, investment and overall productivity of labour and capital, according to the IMF.[1] If we adopted the latest Consensus forecasts for our trading partner growth, output in those economies would be 4% higher in 2011 than assumed in the Budget, but still below previously forecast levels. This would have a positive impact on the demand for New Zealand's export goods and services, partly offset by the higher NZ dollar.


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