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Saving in New Zealand - Issues and Options

Implications of low saving for the New Zealand economy

New Zealand's national saving performance is low relative to its investment. This has implications in terms of risks to future economic growth and the mix of current economic activity.

Implications of low saving for capital market development

The low rate of national saving may also be contributing to the lack of development of New Zealand's capital markets

The Capital Market Development Task Force identified that New Zealand's financial system is under-developed relative to other countries. The low rate of national saving appears to be a contributing factor. As a result of this under-development, businesses are unlikely to have access to a full range of financial services throughout all stages of their development, which could have some implications for investment.

Based on international experience (discussed more fully in the report of the Capital Markets Development Taskforce, 2009), a sustained increase in national saving (for example over 10 to 15 years) could strengthen New Zealand's financial system, with positive knock-on effects to business growth and labour productivity.

High interest rates and exchange rates

Strong growth in spending may be increasing the level of New Zealand interest rates, putting upward pressure on the exchange rate

Over the past decade, strong growth in government and private spending has increased competition for scarce resources in the economy, so that there has been:

  • increased underlying inflation pressure, requiring New Zealand interest rates to be high relative to comparator countries like Australia and the United States (Figure 6), and
  • an elevated exchange rate level driven in part by the interest rate premium.
Figure 6 - Average real interest rates (deflated using CPI)
Figure 6 - Average real interest rates (deflated using CPI).
Source: OECD, Treasury

Overall, these factors have combined to shrink the tradeable sector (including exports) relative to the non-tradeable sector. All of the growth in the economy since 2004 has been in the non-tradeable sector (Figure 7).[5]To put it another way, domestic resources have shifted from investment and exporting to supplying non-tradeable output to satisfy government and household consumption. Higher imports have also been necessary to meet this demand.

Figure 7 - Relative performance of the tradeable and non-tradeable sector
Figure 7 - Relative performance of the tradeable and non-tradeable sector.
Source: Statistics NZ, Treasury

The premium on New Zealand long-term interest rates is often cited as necessary to attract foreign funds to New Zealand to finance the saving shortfall. That is, investors will lend to New Zealand only at those higher rates. Another view is that higher interest rates are necessary to maintain low inflation in the face of higher household and government consumption.

Foreign investors seeking a higher return on their investment shift capital from lower interest rate countries to New Zealand.[6] These capital inflows then drive up the exchange rate.

A permanent increase in national saving will take pressure off domestic resources which will allow, on average, lower interest rates to maintain low inflation. As the premium on New Zealand interest rates relative to interest rates elsewhere would be smaller, it would be expected that the exchange rate would be lower on average too - at least for a few years.

Higher national saving will allow for lower interest rates, which will be beneficial for investment 

Lower interest rates would be beneficial to investment without increased reliance on foreign borrowing. Investment not only adds to the capital stock (which determines labour productivity) but investment itself can help to drive additional productivity growth through improvements in technology and business practices that enable labour and capital to be combined more effectively.

A free-floating exchange rate remains an important part of New Zealand's sound macroeconomic institutions. Increased national saving would likely facilitate a lower exchange rate than otherwise, at least for a few years. This would be beneficial to the export and import-competing sectors. Whether a sustained increase in exports will itself enhance productivity depends on a number of micro-economic factors, but the evidence suggests that a lower exchange rate creates opportunities for high productivity firms to grow and achieve scale through exporting.

It is not clear exactly how much saving would have to rise to achieve lower interest and exchange rates, particularly since both are dependent on many domestic and global factors. Further work is needed before the Treasury would confidently attribute significant growth gains to this role of saving in the economy.

Notes

  • [5]The tradeable sector is estimated as the volume of output (ie, real GDP) in primary and manufacturing industries (highly exposed to overseas trade) combined with the volume of services exports (as it is difficult to estimate what services are tradeable). Non-tradeable output is estimated as a residual with total real GDP.
  • [6]This is not to say that investors do not demand a risk premium but rather, that the risk premium is not the driver of the margin on New Zealand’s long-term rates.
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