KEY POINTS:
Two major statistics released this week, gross domestic product and the current account, or balance of payments, give us a good indication of the state of the New Zealand economy.
GDP figures show whether the economy is growing, while the current account is the best measurement of the
country's financial transactions with the rest of the world.
Table 1 shows that seasonally adjusted GDP declined by 0.4 per cent in the September quarter, the third consecutive quarterly decline. This is the economy's worst performance since GDP dropped for three consecutive quarters from July 1997 to March 1998.
New Zealand's September 2008 quarter performance is consistent with the rest of the world, as 14 of the 28 OECD countries that have reported to date, including New Zealand, have reported lower GDP for the September quarter.
Six of the 30 OECD countries are now in recession, which is defined as two consecutive quarters of negative GDP growth.
The New Zealand economy was weak across most areas in the September quarter, with the exception of the primary sector, where activity increased by 2.1 per cent. Activity in goods-producing industries and service sectors was down 1.4 per cent and 0.2 per cent respectively.
Business investment was weak, exports were down, retail spending was depressed, and inventories increased. The accumulation in inventories is a concern for the economy in the months ahead.
GDP is expected to fall again in the December quarter, as the international credit crunch began to bite strongly only in September and October. There are major concerns that GDP may also fall in the first two quarters of next year. Further declines in GDP have important implications for employment, house prices and the departure of our best and brightest to Australia.
The unemployment rate in Australia - where there has not been a negative GDP figure since the December 2000 quarter - has declined from 4.5 per cent to 4.4 per cent over the past 12 months while our jobless rate has risen from 3.5 per cent to 4.2 per cent over the same period. The Australian housing market has also held up better than New Zealand's, partly because its economy has been stronger and our transtasman neighbours attracted a net inflow of 122,400 long-term migrants in the first half of 2008, while we had a net loss of 1700.
The New Zealand export sector is unlikely to lead an economic recovery in the short term. The international economy is in recession, with the International Monetary Fund forecasting a 0.25 per cent contraction in economic activity in the major advanced economies in 2009. This would be the first annual contraction for this group since World War II.
The best hope for New Zealand over the next six to nine months is for substantial increases in Government spending, tax cuts and a further decline in interest rates. The last is a clear probability, as the Reserve Bank has no excuse for not dropping its official cash rate from 5 per cent at present to under 4 per cent in the first few months of 2009.
This will reduce household mortgage costs, provided the banks pass on the full extent of these interest-rate reductions.
The current account is a measurement of the country's total receipts and payments with overseas interests. These include all exports and imports, interest and dividends received and paid, and any other financial transactions including tourism receipts and payments.
Current account surpluses and deficits are usually measured as a percentage of GDP, and countries with a deficit above 5 per cent are considered to have a problem.
Table 2 shows that New Zealand's current account deficit has risen from just 3.1 per cent of GDP at the beginning of 2002 to 8.6 per cent for the year ended September 2008.
A big concern is the increase from 8 per cent of GDP in the March 2008 quarter after improvements in late 2006 and 2007. New Zealand's current account deficit is the fifth-worst of the 30 OECD countries, after Iceland, which is forecast to have a deficit equal to 24 per cent of GDP for the 2008 year, Greece 14.5 per cent, Portugal 10.9 per cent and Spain 9.7 per cent.
The United States' current account deficit is forecast to be 4.9 per cent of GDP for 2008.
New Zealand has become a huge debtor nation, and the cost of servicing these borrowings is a big contributor to the deficit.
We have international liabilities of $297.1 billion and assets of only $131.2 billion. The $165.9 billion difference between assets and liabilities compares with a $97 billion gap at the beginning of 2002.
The housing boom has been the main reason for this huge increase in international liabilities, as banks borrowed abroad and on-lent this money to property buyers. At the beginning of 2002, our banks had overseas assets of $29 billion and liabilities of $69.3 billion, giving a net overseas deficit of $40.3 billion.
At the end of the latest quarter, the banks had foreign assets of $28.7 billion and liabilities of $147.9 billion for a massive net overseas deficit of $119.2 billion.
This "borrow abroad and invest in residential property" strategy has been a disaster for the current account because houses do not generate any overseas earnings - but we have to pay interest to the overseas parties who lend us the money.
Other contributors to the deficit are the earnings and dividends remitted to the overseas owners of our major companies. This is the result of our poor savings record and willingness to accept opportunistic takeover offers from overseas predators. As a result, the investment component of the current account, which includes all dividends and interest, accounted for 7.6 per cent of the 8.6 per cent current account to GDP ratio for the September 2008 year.
Current account deficits are primarily funded through the sale of assets or through further borrowings. In recent years, the deficit has been funded mainly through increased debt because of the availability of this form of finance on international markets.
However, in the last two quarters, we have had to sell assets to fund the deficit. In the June quarter, the bulk of the current-account deficit was funded through the sale of "other investments", and in the latest quarter the country's overseas reserves, mainly foreign exchange holdings, were reduced by $5.5 billion.
It is not surprising the major banks have decided to lend only up to 80 per cent of the value of a house. The banks' overseas borrowing capacity has been reduced, and the best way for them to ration money is to lend to home-buyers who have reasonable equity.
But the message from both the GDP and current account figures is that New Zealanders have borrowed and invested far too much in residential property.
This makes the economy vulnerable to a downturn in the housing market, and does not give us a strong, diversified economic base to shield us from the worst aspects of an international recession.
Disclosure of interest: Brian Gaynor is an executive director of Milford Asset Management.
