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Sustaining Growth: Briefing to the Incoming Government 2005

Chapter 1: Economic context

Over the past decade New Zealand’s rates of economic growth have increased significantly, but there is still room for further increases. Meeting the three challenges of productivity growth, fiscal stability and a well-performing state sector will help to increase living standards for all New Zealanders.

A decade of economic growth

Prior to the early 1990s, New Zealand experienced a long period of low performance with sluggish growth rates per capita, averaging under 0.5% per annum. Since then, our gross domestic product (GDP) growth rate per capita has, in general, exceeded rates across the OECD average, with a solid average of 2.1% per capita over 1995 to 2005. If New Zealand is to move up the OECD ladder we will need to sustain and bolster current growth rates. This will not be easy.

Figure 1: Real GDP per capita as a proportion of other countries’ GDP
Figure 1: Real GDP per capita as a proportion of other countries’ GDP.
Source: OECD

Moving into the top half of the OECD within 10 years will require a marked increased in growth rates that very few countries have achieved. Specifically, New Zealand is likely to need to achieve growth rates of around 4% per capita per annum, compared with the 2% per capita achieved over the past decade.

The lift in New Zealand’s growth over the last decade can largely be attributed to increased employment growth generated by rising levels of workforce participation and reduced unemployment. As figure 2 shows, the unemployment rate has fallen from 7.6% in 1998 to 3.7% in 2005 and the participation rate has increased from 65.1% to 67.7% over that time.

Increases in labour productivity (or the amount of output achieved for a given amount of labour) since the early 1990s has been less impressive, growing at an internationally modest 1% per annum over the last decade.

Figure 2: A strong labour market
Figure 2: A strong labour market .
Source: Statistics New Zealand
Figure 3: Growth has been driven by employment
Figure 3: Growth has been driven by employment.
Source: Statistics New Zealand

Sluggish productivity growth is partly the flipside of the impressive gains in employment and participation rates. Firms have used more, relatively inexpensive, labour to meet increased demands. Until recently, there has been a relatively slow rate of investment in capital across the economy. To sustain and enable further growth the firm-led change in these dynamics will need to continue. Higher rates of productivity are likely to occur as employees gain greater skills and knowledge within the roles they now fill.

Forecasts for economic growth

The Pre-EFU set out the Treasury’s forecasts of growth until 2009. These forecasts show the recent period of strong growth easing over the next two years, picking up once more toward the end of 2009 (to return to rates of around 2% per capita). The forecast easing of the growth rates therefore mainly reflects a cyclical phenomenon.

There are some macroeconomic risks to be managed. The recent period of strong growth has led to a high current account deficit, pressure on resources, rising inflation rates and increasing household debt-income ratios. In addition, higher oil prices have added to inflationary pressures. These tensions will probably work themselves out over time. If these conditions do continue to build, however, the economic adjustment could be more pronounced and disruptive with a potentially adverse impact on longer-term growth.

Increasing labour productivity is essential for growth

For growth to be sustained, the economy needs to move from a phase of strong labour absorption to ongoing and increasing labour productivity growth. The economy appears to be well positioned to make a transition to increased productivity, but some of the data are still ambiguous. Supporting this transition will require:

  • external linkages that allow firms access to wider markets for goods and services, skills, capital, ideas and technology
  • a business environment that encourages investment, enterprise, and innovation, and
  • skill development and labour markets able to meet the demands of a dynamic economy.
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