Gloomy Brash at odds with analysts

Don Brash

The country was almost certainly headed for a recession if business confidence stayed at its present levels - the weakest in 30 years, National leader Don Brash warned in last week's Orewa speech.

"The collapse in business confidence is like the warning light on your petrol tank. Ignore it at your peril. Well, it's flashing," he said.

However, most economic forecasters are inclined to disagree - while not discounting the possibility of a recession, they feel that, more likely than not, one will be avoided.

In a recent Reuters survey of 10 private sector forecasters, estimates of economic growth this year ranged from 1 to 2 per cent, with the median 1.4 per cent.

But 1.4 per cent is close to the historical average margin of error around such forecasts 12 months ahead.

First NZ Capital economist Jason Wong thinks talk of a recession is premature, rating the chances of one this year at 35 per cent.

He says confidence surveys are a better guide to what is happening in the economy now than in a year or so.

NZIER and National Bank surveys of firms' own activity (as distinct from their view of the general environment) suggest feeble economic growth at an annual rate of less than 1 per cent.

But Wong said the latest surveys were taken at a bad time, not long after a general election whose outcome was not what business wanted, when the kiwi dollar was reaching new highs on all the major cross rates, except the US dollar, and in the wake of interest rate rises by the Reserve Bank.

"A more up-to-date survey might show higher levels of confidence given the time passed since the election, the significant depreciation of the dollar and the increased chance that the tightening cycle is over," he said.

Consumer confidence had also fallen, to a five-year low as measured by the Westpac McDermott Miller survey, but that had only brought it back in line with its long-run average. Another indicator sometimes pointed to as a harbinger of recession is the increasing negative yield curve; that is, the widening gap between long-term and short-term interest rates.

But Wong said the steep negative yield curve was more a reflection of low US bond yields driving down New Zealand rates than of particularly high local short rates.

"In this cycle, the low bond rates and thus negative yield curve is actually helping stimulate the economy; for example, through low, fixed-rate mortgages."

Previous recessions had occurred when the global economy was also weak and growth among trading partners had slipped below 2 per cent. The exception was the late 1980s when the economy was undergoing radical structural change.

But Wong said the outlook for trading partner growth was robust. And that, in turn, should keep the terms of trade, the ratio of export to import prices, well above average, even if down from last year's peak.

The Bank of New Zealand's chief economist, Tony Alexander, also lists relatively high commodity prices and strong growth among trading partners as factors that will mitigate the severity of a downturn.

In addition, the labour market remains tight, making firms reluctant to lay people off and giving consumers a reasonable degree of job security.

The Government's fiscal policy is switching from contractionary to stimulatory.

Infrastructure spending and some catch-up in non-residential construction has offset a decline in residential building activity.

"These factors explain why we do not expect a recession this year, although the possibility cannot be entirely ruled out," Alexander said.

"And because we don't expect a recession this time around, we also don't see a sharp bounce up on the other side."

Alexander said the last recession, in 1998, was short and sharp. When then Reserve Bank governor Brash realised he was tightening monetary policy with the economy already in recession, he slashed interest rates. Growth rebounded from minus 0.1 per cent in the year to September 1998 to 2.9 per cent a year later.

This time around, because the Reserve Bank had misjudged the extent of inflationary pressures in the economy, it would not be cutting interest rates for about a year and, when it did, the cuts could be relatively minor.

Because commodity prices are still relatively high and not expected to fall much, a repeat of the 30 per cent jump in agricultural prices in 1999 and 2000, which kicked off the latest cycle, is unlikely to be repeated.

Alexander thinks any downturn will be shallower but longer than the last one.