ECONOMICS : A Passing Weakness

Finance minister Michael Cullen had cause to be smug when he addressed The Property Group at Christmas drinks session in Wellington. year earlier the doomsayers had been portending something much less than prosperous 2006 – forecasting recession and the prospect of lean Christmas. “We end the year with signs we are growing again and preparing well for the future, future that will allow us to have full and valuable stockings for the Christmases to come,” Cullen rejoiced.
The doomsayers had included National Party leader Don Brash, who used his state-of-the-nation address at Orewa to predict the likelihood of an economic recession. The Government was “asleep at the wheel”, he warned, and recession was almost inevit-able if nothing was done to improve business confidence. As things turned out, it was his prime ministerial ambitions that receded.
But the economy certainly was sharply slowing early last year. After three years of robust GDP growth around four percent annually, ASB Bank chief economist Anthony Byett said it would be tough year, “whether it’s recession or not”. The NZIER Consensus Forecasts (an average of New Zealand economic forecasts compiled each quarter from survey of financial and economic agencies) showed forecasters expected real GDP growth of 2.5 percent in the year to March 2006. This growth was expected to soften further through 2006/07, down to 1.9 percent annual growth.
In the upshot, when Cullen presented his 2007 Budget Policy Statement in December, stronger-than-expected economic activity, along with higher employment and wage growth, had led to tax revenue exceeding Budget forecasts by around $300 million in the period from July to September. And business confidence was strengthening.
The latest NZIER Consensus Forecasts show economic growth is expected to be sluggish over the next two years. Average annual growth in GDP is expected to be 1.8 percent in 2006/07 (down tad from the forecast year earlier), accelerating to 2.3 percent in 2007/08 and to 3.2 percent in 2008/09.
The short-term forecasts of inflation continued to soften. For some time, the institute reminded us, annual inflation in the year to March 2007 had been forecast to increase more than three percent. Not any more. The December survey consensus forecasts show it slipping from 3.8 percent (in the September survey) to 2.9 percent. This is the first consensus forecast in recent times in which the 2006/07 CPI has been below the ceiling of the Reserve Bank’s one to three percent target band. The CPI is expected to ease gradually to 2.5 percent in 2007/08 and 2.4 percent in 2008/09.
Despite this lowering of short-term inflation expectations, forecasters expect interest rates to remain at current levels for longer with 90-day interest rates at 7.5 percent in 2006/07, seven percent in 2007/08 and 6.4 percent in 2008/09.
High interest rates have been factor in the New Zealand dollar’s rebound in recent months. The currency is expected to remain at higher levels than previously forecast throughout 2006/07 and its subsequent depreciation is forecast to be less than previously expected. On trade-weighted average basis, forecasters expect the kiwi dollar to average 64.3 for 2006/07 (up from 62.4 in the September survey), depreciating to 60.8 in 2007/08 and to 58.1 in 2008/09.
Regardless of the upward revision of the kiwi dollar, the annual average growth rate of total exports of goods and services is expected to accelerate to 3.9 percent (compared with one percent in the September survey). But the outlook for export growth in the following two years has been revised downwards slightly, to 3.7 percent in 2007/08 and 4.6 percent in 2008/09.
Forecasters expect stronger wage growth throughout the forecast period. Private sector hourly wages are expected to grow at 4.9 percent in 2006/07, 3.8 percent in 2007/08 and 3.4 percent in 2007/08.
For Cullen’s policy-making purposes, the Treasury forecasts are the ones that matter most. His officials say the economy has passed its weakest period of quarterly growth, which occurred at the end of 2005, and has entered period of modest growth. They expect annual average GDP growth to be 1.8 percent in March 2007, rising to 2.3 percent in March 2008 before further recovering to 3.2 percent in 2009.
But there is problem with speed wobbles. The long period of strong growth in the economy has resulted in macroeconomic imbalances: rise in inflation pressures and large current account deficit.
At the Reserve Bank, governor Alan Bollard accepts that the short-term inflation outlook has improved, but he warned “we are less optimistic about medium-term prospects. Economic activity has been stronger than expected, given the resilience in domestic demand, and medium-term inflation risks appear weighted to the upside.”
The bank’s projections and risk assessment suggest firmer monetary policy stance could be needed, and further tightening is on the cards.

Bob Edlin is regular contributor to Management.

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