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2.1  The main issues (continued)

2.1.4  Build-up of foreign debt

Decades of foreign borrowing and inward foreign investment has added to New Zealand's NFL. New Zealand's NFL peaked at 90% of GDP but, with the recession, has now moved closer to 85%. Most of the borrowing has been undertaken by the private sector.

Figure 2.6: Current account balance (% of GDP), 1972–2010
Figure 2.6: Current account balance (% of GDP), 1972-2010.
Source:  Statistics NZ
Figure 2.7: Net foreign assets (% of GDP), 1970-2010
Figure 2.7: Net foreign assets (% of GDP), 1970–2010.
Source:  Statistics New Zealand; Lane & Milesi-Ferretti (2006)
Figure 2.8: Government debt and net foreign asset position, 2009
Figure 2.8: Government debt and net foreign asset position, 2009.
Source:  OECD; IMF; Statistics NZ

2.1.5  Implications of high levels of foreign debt

  • The large NFL position presents two economic problems that the SWG considers serious and increasingly urgent. First, it makes the New Zealand economy too vulnerable to market shocks. Second, it has an adverse impact on economic performance, especially growth. These problems are discussed in more detail later in this Report.
  • Until the GFC it was easier to discount the argument that the level of NFL to GDP was a problem, but in the wake of the IMF rescues of Greece and Ireland, and the recent negative outlook warning on New Zealand’s foreign currency rating, New Zealand can no longer be so complacent. Its NFL position is similar to Portugal, Ireland, Greece and Spain, countries currently in financial stress. New Zealand’s risk is that it suffers a similar fate, with financial markets turning against it, which would cause serious economic hardship to many New Zealanders.
  • The second problem is that it allows domestic demand to exceed domestic supply over an extended period. The demand pressure on the economy means that interest rates are higher than they would be in a more balanced economy and indeed, interest rates in New Zealand do tend to be higher on average than in other developed economies.
Figure 2.9: Net international investment positions and real interest rates
Figure 2.9<: Net international investment positions and real interest rates.
Source:  OECD, IMF, SWG calculations

Note: Annual average nominal interest rates less average annual consumer prices.

  • This interest rate differential, in turn, places upward pressure on the exchange rate in the short term, with an expectation that the exchange rate will depreciate in the future. However, to date this depreciation has failed to materialise as foreign investors continue to have faith in New Zealanders’ willingness and ability to repay their financial obligations. The evidence is that this sentiment could change quickly and disastrously.
  • The generally overvalued exchange rate encourages the expansion in the non-tradables sector of the economy and discourages activity in the tradables part of the economy.
Figure 2.10: Relative performance of the tradable and non-tradable sectors, including tourism 1999-2010
Figure 2.10: Relative performance of the tradable and non-tradable sectors, including tourism 1999-2010.
Source:  Statistics NZ
  • Since the tradables part of the economy tends to have higher productivity growth (due, in part, to being exposed to international competition) than the non-tradables part of the economy, overall productivity growth in the economy is lower. Since productivity growth is the ultimate source of income growth, this process has a long term adverse impact on the standard of living in New Zealand.
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