Delivered by John Whitehead, Secretary to the Treasury, at the Japan Investment Workshop, 24 November 2005.
|24 Nov 2005||Slides in PDF format||
Mina-san, hajimemashite. Dozo yoroshiku onegai shimasu.
Thank you for the opportunity to speak with you today. I would like to focus on the economic links between New Zealand and the rest of the world – in particular Japan and long-term investors such as yourselves. To start off, I’ll provide an overview of New Zealand’s global economic linkages and the importance of our relationship with Japan. I’ll then review recent economic developments, and share my thoughts on short and longer-term prospects for the future. The final areas I’d like to cover are the main aspects of New Zealand’s economic and policy environment that are likely to be of interest to long-term investors. If there’s one main message I’d like to leave you with today, it’s this: from almost any perspective, New Zealand is an attractive destination for long-term investment.
New Zealand ’s Economic Linkages with the Rest of the World
While we may be on the edge of the map, New Zealand has many linkages with the rest of the world. Being globally connected is not only about international flows of goods, services and capital. It’s also about being connected in less-tangible ways, such as the cross-border flows of information, ideas, people, technology and culture. It is also about more than being an open economy, since being linked implies not only that connections can be made, but that they actually are made.
Being internationally connected contributes to economic growth – all the more so for New Zealand, a small open economy distant from major economic hubs. It exposes our domestic markets to competitive pressures from offshore – contributing to greater consumer choice and better use of our resources. It opens up larger markets and bigger opportunities for New Zealand firms – allowing them to become more specialised and exploit economies of scale and specialisation. They also benefit from access to a larger and deeper international pool of labour. Firms in an internationally connected economy have the opportunity to become part of global production networks. These networks enable New Zealand firms to become a part of cross-border channels of production and marketing, and are a conduit for the transfer of knowledge, technologies and best-practice management. All of these influences potentially boost productivity, New Zealand’s key economic challenge.
So, how well are these connections working for us? Gross trade-flows – the total of exports and imports – amounted to 44% of GDP in 2004/05. This is roughly the middle of OECD rankings. It is worth noting, however, that our exports contain a smaller share of imported components than exports from most other OECD countries. Export-destinations are well diversified among Australia, Asia, North America and Europe.
- Slide 1: New Zealand’s Stock of Foreign Direct Investment
Foreign direct investment is another important connection with other countries. As this graph shows, stocks of foreign direct investment in New Zealand are high, amounting to 52 percent of GDP in 2005.
- Slide 2: Long-Term Migration to New Zealand
While it’s difficult to measure how well connected New Zealand is with regard to information and ideas, the number of immigrants provides part of the picture. This graph of our long-term migrant numbers shows about 20% of New Zealand residents were born overseas – a high ratio compared with other developed countries. Other data suggests that New Zealand has extensive research and development links with advanced economies.
My quick run-down of these major types of economic linkage – trade, capital and ideas – points towards New Zealand having a good base on which to build.
Successive governments have recognised the economic importance of good international linkages and pursued policies to promote them. Since 1999, New Zealand has negotiated free trade agreements with Singapore and Thailand and a strategic economic partnership with Singapore, Chile and Brunei. At the same time we’re strengthening our already close economic relationship with Australia.
New Zealand ’s economic linkages are changing over time. For example, the tourism industry is now New Zealand’s number one export earner, having overtaken the dairy industry. Our processed food industry is growing, and international recognition of New Zealand wines has given a significant boost to wine exports.
Economic linkages with Japan
Among all our economic relationships, Japan stands out as a key partner – with strong trade, tourism, investment and people-to-people links. New Zealand imported $3.7 billion from Japan in the year to 31 March 2005, 12% of total imports. We exported $3.5 billion to Japan in the same year, 10% of total exports. Despite a strong New Zealand dollar, Japan remains a high value and profitable market for many of New Zealand’s leading exporters. Japan has direct investments of $1.4 billion in New Zealand, with Japanese companies employing over 9000 New Zealanders. Japanese investment in New Zealand has traditionally reflected the trade between the two countries: much of it is to secure supply of raw materials and food, in sectors such as forestry, fishing and aluminium. Investments are also made in companies distributing Japanese goods, such as automobiles and consumer electronics, and in the provision of services such as tourism. In recent years, links in innovative high-tech sectors have also grown. eAcess, Photowonder and Allied Telesis are all examples of this new strand in the investment relationship and I am pleased to see some members of these companies present today.
Trade in services has also been growing. In the year to 30 September 2005, we welcomed 160,000 Japanese tourists to New Zealand, 7% of our total visitors. They spent $572 million, which represented 9% of total expenditure by tourists in our country. Many Japanese also choose to live and study in New Zealand. Our economic relationship has been supported by growing scientific, cultural and people-to-people links.
To summarise, the economic relationship between New Zealand and Japan is in good health on a wide front. Both the Japanese and New Zealand Prime Ministers recently announced that they intend to look at ways to make the relationship even stronger. We are thinking about how we might best develop a strategy to work towards this objective. Supporting the relationship has been the high economic growth in New Zealand in recent years – which makes us an increasingly significant economic partner. In sumo terms, the Japanese economy might be a yokozuna, and the New Zealand economy somewhere in the juryo division, but I think that we push pretty hard for a kantosho award!
Economic Developments in New Zealand
- Slide 3: Real GDP growth in the NZ economy and comparison with OECD average
Annual real growth in the New Zealand economy since 1999 has averaged 3.6 per cent, well above the OECD average of 2.4 per cent. This strong performance has occurred despite challenging international and domestic events.
Past structural reforms and good economic management have transformed the New Zealand economy into one that is more flexible and better able to absorb adverse shocks, as well as take advantage of favourable conditions. For example, we have benefited from, and continue to benefit from, higher world prices for our agricultural exports. In addition, a strong labour market and increased wealth have buoyed consumer confidence.
Our unemployment rate of 3.4 per cent is the lowest in the OECD. And labour force participation – that is, the proportion of the working age population either in work or actively seeking work – has also increased.
- Slide 4: Current account balance decomposed into savings and investment
However, strong growth brings its own challenges. At 3.4%, inflation has risen to a level above which the government and the Reserve Bank have agreed is desirable over the medium term. And the current account deficit – the difference between what we save and invest – has steadily deteriorated to 8% of GDP and is expected to deteriorate further in the near term. These two developments share a common element – strong growth in spending, particularly household spending.
A widening of the current account deficit is not in itself a cause for concern. Our economic performance has contributed to a period of strong growth in business investment as businesses expand their production limits. Open capital markets mean some of this capital can come from abroad. From a macroeconomic management perspective, the bigger concern is whether recent growth in household spending is desirable. With household savings at very low levels, household consumption and property purchases have increasingly been funded by borrowing. This has led to an ongoing build up in household indebtedness.
- Slide 5: Mix of monetary conditions
There is no question that an adjustment will take place at some point. New Zealand’s official cash rate – the interest rate set by our central bank - has risen 200 basis points in the past two years, and further rate rises cannot be ruled out. However, the more interest rates have to rise to quell household appetite for borrowing, the greater the risk of a protracted and serious decline in economic activity and a larger and more-rapid-than-expected decline in the New Zealand dollar. It’s fair to say that a slow-down in the New Zealand economy and a decline in our dollar are inevitable – something that it would be wise for short-term investors to factor into their portfolio decisions.
For long-term investors, such as yourselves, a key question is how well will the New Zealand economy cope with the correction to the current account imbalance. Overall, the signs are good. While there are risks to the short-term outlook, New Zealand’s economic fundamentals are sound. We have an open economy, sound fiscal and monetary policy, a robust institutional framework and high-quality regulation that we are continuously working to improve. The economic environment in New Zealand sets the scene for a relatively smooth adjustment.
The Economic Environment in New Zealand
First, the general policy environment supports flexibility. Our fully flexible exchange rate, in conjunction with sound monetary policy, has acted as an effective shock absorber for New Zealand, both when the economy has been running too hot as well as too cold. Barriers to trade and investment are minimal and our exports and export destinations have become more diverse. A relatively flexible and mobile labour market has also made it easier for businesses to reduce costs in the event of a temporary slowdown in growth.
- Slide 6: Government savings and current account deficit
Second, the New Zealand government has maintained a sound fiscal position, reflected in our strong sovereign rating. The government has run an operating surplus for 11 years. As a percentage of GDP, gross Crown-issued debt has been steadily tracking downwards and currently stands at around 25%. Net core Crown debt, including the assets being accumulated by the government to pre-fund future superannuation commitments, was just 8% of GDP last year. By this measure the New Zealand government is forecast to become a net lender by 2006.
Third, New Zealand has worked hard to create a sound public-sector management system and to improve the effectiveness and efficiency of regulation. Well-designed institutional arrangements facilitate high-quality decision making by the Government, which in turn contributes to greater policy transparency and predictability – an important factor in enhancing an economy’s attractiveness to investment. Effective and efficient business regulation also makes it easier to do business in New Zealand. For example, recent amendments to the Resource Management Act aim to provide better and faster decisions on resource consents.
Finally, New Zealand has a profitable and well-functioning financial system, supported by sound and transparent financial policies. New Zealand banks are among the most profitable in the world, with very low levels of non-performing loans.
Long-term investors are also likely to be attracted to New Zealand’s highly-educated and multi-skilled workforce, low business costs compared with other OECD countries, simple tax system, free movement of capital and high-quality infrastructure.
These and similar considerations are increasingly recognised internationally as providing one of the world’s best business environments. In fact, The World Bank’s annual Doing Business survey of 155 economies found that “New Zealand has the most business-friendly regulation in the world”, and ranked best of all the countries surveyed, immediately ahead of Singapore and the United States. The survey found New Zealand particularly strong in the ease with which investors can secure property rights and in investor protection.
Another well known survey, the annual Global Competitiveness Report, places New Zealand 16 th out of 117 countries in terms of overall competitiveness – an improvement of two places since the previous year’s survey.
Positive factors for the New Zealand ranking included government finances, public institutions and tertiary enrolment. Negative factors included the high real exchange rate, low national savings and high interest rates.
- Slide 7: Current account, real GDP growth and the exchange rate
It’s true that while the medium to long-term outlook for the New Zealand economy is positive, the short-term outlook, as I mentioned earlier, is less so. An adjustment to reduce the high current account deficit will take place. However, it is worth noting that New Zealand has managed a similar adjustment successfully before in the late 90s and came out growing strongly.
- Slide 8: Decomposition of real GDP growth in New Zealand
Policies to Increase Productivity
New Zealand ’s challenge is to avoid complacency and to continue to improve our long-term economic performance. Our strong performance in recent times has, to a large extent, been the product of increased labour force participation. From now on, we need to increase our productivity to generate economic growth.
Productivity is about making better use of technology and the resources you currently have, and getting more out of them. Businesses are already finding themselves in a position where, in order to improve their productivity, further investment is required in technology and other forms of physical capital and in increasing the skills of the existing workforce – that is, enhancing labour productivity.
- Slide 9: Business investment growth
There is already some evidence of this taking place. Growth in business investment has been particularly strong in the last two years, averaging an annual increase of nearly 13%.
Underpinning productivity growth is a range of government policies in areas like macroeconomic stability, enterprise and innovation, human resource development, labour markets, investment and financial markets, infrastructure and public sector performance. All of these factors have the potential to affect economic growth because they make up a large part of the environment firms operate in.
Infrastructure, in particular energy supply, is an area where New Zealand, like many other economies, is in a state of transition. The Government takes the security of future energy supply seriously and has established a regulator with a wide range of powers to ensure that the standards the Government has established for security of supply is met. The Government has also offered incentives to encourage greater gas exploration and has introduced a new regulatory framework to assist with timely investment in electricity transmission.
The Government remains committed to moving New Zealand back to the top half of the OECD rankings in GDP per capita terms and is playing its role in trying to improve the economy’s productivity performance. In particular, it recognises the importance of transforming New Zealand into a dynamic, knowledge-based economy.
Earlier this month, the Government indicated that it would be emphasising the importance of savings, education and skills, science and innovation and export growth to improve New Zealand’s economic performance. It announced a review of the structure of corporate taxation; longer-term funding commitments for government-funded research, science and technology; and greater commercialisation of public sector-generated research. The Government indicated that it would be seeking to improve the quality and relevance of tertiary education and industry training in recognition of business concerns regarding growing skill shortages. The Government also confirmed its commitment to a fair and open global trading environment, including active participation in the current Doha development round of WTO negotiations and further advancement of bilateral and regional trade negotiations. These policies all build on the Government’s broad-based strategy for economic development.
In summary, New Zealand holds much attraction as a destination for foreign direct investment. The economic fundamentals are sound and there is a genuine desire on behalf of both the people and the Government to see the relationship between our countries reach its full potential. The linkages that we have with Japan are numerous and span a wide range of areas - from trade and investment to people and ideas. New Zealand greatly values these linkages and we look forward to broadening and deepening them over the years to come.