7.5 Scenarios
As we have discussed, the central forecast presented incorporates a number of key exogenous assumptions and judgements about how various forces affecting the economy will evolve. These judgements reflect the balancing of both positive and negative risks facing the economy to arrive at our best assessment of how it is likely to develop. Given the implications for tax revenue, it is important to give ministers an idea of the impact on the economy if key assumptions were different. The model is useful for this type of analysis as it allows Treasury to vary one or more key parameters/assumptions, holding the rest constant and to flow the changes through consistently. A recent example where using the model to run an alternative scenario was to look at the impact on the New Zealand economy if the financial market crisis originating from the 2007 sub-prime crisis was more severe and protracted than we had assumed in our main forecast (see New Zealand Government, 2008 for more information). To run such a scenario in the model involved (relative to the central forecast):
- Imposing a higher interest rate track as such a situation would result in an increased risk premium
- Imposing weaker demand for exports, particularly commodities and tourist services as global growth and therefore incomes will be lower
- Imposing weaker private consumption and business investment as New Zealand households become more cautious in their spending behaviour (ie, engage in precautionary saving) and firms become reluctant to invest in a more uncertain environment.
- Figure 16: Real GDP
- Sources: Statistics New Zealand, The Treasury
- Figure 17: Real GNE
- Sources: Statistics New Zealand, The Treasury
- Figure 18: Nominal GDP
- Sources: Statistics New Zealand, The Treasury
- Figure 19: Inflation
- Sources: Statistics New Zealand, The Treasury
- Figure 20: Trade weighted index
- Sources: Reserve Bank, The Treasury
Figures 16 to 18 show that such a situation would lead to lower real GDP and GNE, with this slower domestic activity reducing inflation pressures (offsetting the inflationary pressures of the falling exchange rate; see Figures 19 and 20). Lower inflation and real activity would lead to lower nominal GDP and therefore tax revenue.
