Economic crunch: Here's what past recessions can teach us

Saturday, 19 September 2020

ANALYSIS: Tough times are here. New Zealanders are facing up to an economy in recession which shrank by 12.2 per cent in the three months to the end of June.

Tens of thousands of households and businesses are struggling to pay their mortgages, overdrafts and bills, but history shows coping with the rigours of recessions, depressions and economic shocks is something every New Zealander should bank on doing fairly often in their lives.

New Zealand has around 34,000-odd people aged over 90, and the parade of recessions, depressions and shocks they’ve experienced makes for sobering reading.

Kiwis enjoying their 10th decade of life experienced the Great Depression of the 1930s, the Wool Bust of the 1960s, the two oil shocks of the 1970s, the self-inflicted recession of 1991-92, the Asian Crisis of the late 1990s, the global financial crisis in 2008, and now the Covid-shock.

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Independent economist Shamubeel Eaqub believes we have learnt a lot about how to respond to recessionary periods, though we are no better at preventing them from happening.

“There will always be recessions,” he says. “Human systems tend towards chaos. We go to the brink, and pull ourselves back. The economy is organised chaos.”

Part of the reason we are so bad at predicting, and preparing for recessionary periods is that no two of New Zealand’s recessionary periods in our history have been the same.

In 2008, with the global financial crisis raging, economists Michael Reddell and Cath Sleeman produced a paper for the Reserve Bank walking through past recessions.

The pair produced a table of the characteristics of the recessionary periods, and no two shared the same characteristics.

Every recessionary period was a new experience for politicians, public, and business, and Covid-19 is no different.

Economist Brian Easton, the author of Not in Narrow Seas: The Economic History of New Zealand, believes it’s unhelpful to look at New Zealand’s past recessions and depressions in a bid to understand the Covid recession, or model its likely recovery.

Even comparing the scale is hard, as historical data is often patchy and weak.

In his history of the Great Depression, The Broken Decade, Malcolm McKinnon said it was difficult to even know how many people were unemployed with estimates of male worker unemployment ranging from 13.5 per cent to 28 per cent.

Even today the data is not perfect.

Easton is not convinced that New Zealand’s 12.2 per cent decline in GDP in the June quarter, reported with horror around the world on the likes of the BBC and CNN, is likely to be accurate.

“I’m not going to hang onto 12.2 per cent as an accurate figure. It will be revised as with all the estimates from other OECD countries,” he says.

But, he says: “This shock is probably unprecedented.”

The Great Depression (1928-1933)

No recessionary period looms in New Zealand history as large as the Great Depression, though Easton wonders whether the little-studied, mostly-forgotten export price shock of the early 1920s may have been the closest parallel to the Covid economic shock.

“While the collective memory is of ‘farmers walking off the farm’ in the early 1930s, some families recall a similar trauma in the early 1920s,” he says.

The traumas and rising up for social justice prompted by the Great Depression helped shape the politics of the 20th century, resulting in a first Labour government, the building of health and welfare systems, and attempts to improve Māori living standards.

The New Zealand that faced the Great Depression was a very different one from the New Zealand of today.

The country’s exports were nearly 85 per cent pastoral, with 80 per cent of it going to Britain, Reddell and Sleeman said in their paper.

The Great Depression was an international event. It hit the UK very hard. New Zealand’s exports suffered as a result.

By 1933, export prices had dropped 45 per cent, Reddell and Sleeman said, though farmers ramped up production reducing the impact on earnings.

But many farmers were deeply indebted, and rural belts were tightened. The rural depression flowed into the cities.

Unemployment spiked- possibly as high as 20 per cent. Wages fell, but so did consumer prices, which fell by 12 per cent in 1932 alone.

Today, the Government is borrowing, and the Reserve Bank, which has forced down interest rates, is flooding the system with new money. It’s enabling massive support for households and businesses.

That did not happen during the Great Depression.

Governments were wedded to balanced budgets. Spending cuts exacerbated the economic slump. New Zealand did not have an independent Reserve Bank at that time, and relied on the United Kingdom’s money markets for debt. The country was also deeply indebted when the Great Depression hit. The exchange rate was pegged to the UK pound.

“Had consensus opinion at the time allowed for the exchange rate to be floated, or even to have been devalued sharply earlier in the downturn, the recession in economic activity would have been milder,” Reddell and Sleeman said.

Eaqub said The Great Depression led to a great rethinking of economics, giving birth to ideas that would shape the responses to future recessionary periods.

Among those where the ideas of British economist John Maynard Keynes, who won over the world to the idea that governments should increase spending and lower taxes to stimulate demand and pull economies out of recession.

The wool bust (1967–1969)

In 1966, around 31 per cent of New Zealand’s exports were wool, Reddell and Sleeman said.

The sixties had been a time of growth, both economically and culturally, but living off the sheep’s back exposed New Zealand badly when in November 1966, just before the general election, the wool market collapsed.

Overnight New Zealand lost an eighth of its total export income.

“Overall, wool prices fell by 20 per cent in 1967 and a further 20 per cent in 1968,” Reddell and Sleeman said. The Government tried to protect farmers buying hundreds of thousands of bales of wool from them, but between 1966 and 1968, GDP growth fell by 2.9 per cent, and income per head may have fallen by as much as 5 per cent.

For workers it was not a terrible time, and job queues barely lengthened by contrast to the Covid economic contraction.

The oil shocks (1974-1977 and 1979-1980)

The country was posting budget surpluses, and foreign reserves were high. The population, and house prices, had been rising.

But in 1973 Opec cartel of oil-producing countries decided they deserved a bigger share of the Western economic boom, and after two decades of relatively flat oil prices, the price more than doubled between December 1973 and January 1974.

It triggered a global recession. Many New Zealanders found themselves cycling to work to save money. In the second oil shock “car-less” days were introduced by the government in a bid to reduce consumption.

Sharemarkets in London and New York lost more than half their value in the first oil shock, Reddell and Sleeman said, and to make matters worse here, New Zealand experienced an El Nino drought in 1972 and 1973.

Commodity prices and immigration fell during the first oil shock, as did real house prices, but inflation was running hot, hitting 17.8 per cent in 1976.

New Zealand initially tried to stimulate the economy, and maintain living standards, borrowing from the International Monetary Fund and the Bank of International settlements, Reddell and Sleeman said.

But in 1976, as a fresh election approached, the new government cut its spending in a bid to reduce inflation.

Recovery was in its early stages when the second oil price shock hit, with prices more than doubling as a result of the Iranian Revolution and the Iran-Iraq War, pushing the world’s economy back into recession.

In New Zealand unemployment rose to levels the country had never seen before, and prime minister Sir Robert Muldoon, who came to power in 1975, moved to stimulate the economy with measures including his now famous “Think Big” projects, echoed now in the Government’s “shovel ready” infrastructure projects.

The 1991–1992 recession and Asian financial crisis (1997-1999)

New Zealand was booming in the 1980s, but inflation was high, and unpredictable, and attempts to bring it under control, combined with economic deregulation and rising unemployment, to tip the country into recession.

The economy moved back into growth mode, unemployment fell, and then in 1997 an economic shock came from a place nobody had expected it to: Asia.

Around one third of New Zealand’s exports were destined for Asia, and Australia was similarly exposed to the fate of its Asian trading partners, Reddell and Sleeman said.

The crisis came at an inconvenient time, with New Zealand’s farmers again contending with drought.

”The Reserve Bank was slow to recognise the full impact of the Asian crisis and the first drought through late 1997 and early 1998,” Reddell and Sleeman said.

“This was the first economic slowdown and financial crisis forecasters had ever had to deal with emanating from Asia, and it was unclear quite what it would mean for New Zealand.”

The recession following the global financial crisis (2008-2009)

Former Reserve Bank governor Allan Bollard described the global financial crisis (GFC) in these stark terms in 2012: “The global financial system went through major convulsions in 2008, putting great pressure on an already weakening global economy. A massive global economic recession followed.”

So bewildering and damaging was the GFC to the financial masters of the universe, that Bollard wrote: “We are all working to understand, contain and repair the damage to financial systems, to economies and to governments' financial capacity.”

At the heart of the GFC was a massive speculative housing and corporate debt bubble in the United States and the United Kingdom, combined with country debt crises in Europe.

New Zealand’s banks remained strong, but two home-spun financial failures, the finance companies and the leaky building scandal, made financial life a misery for many Kiwis.

The government moved quickly to guarantee bank deposits so international money markets retained confidence in lending to them. It also bailed out investors in finance companies, while the Reserve Bank cut interest rates.

New Zealand experienced six quarters of recession in 2008 and 2009. Unemployment rose from 3.7 per cent in December 2007 to 6.1 per cent in December 2008.

Overseas, central banks embarked on massive “quantitative easing”, and governments borrowed heavily.

The playbook of fighting recessions that would be used during the Covid pandemic had been established.

The Covid recession (2020)

Wage subsidies, new benefits, mortgage and business loan “holidays”, and unprecedented Government borrowing have so far muted job losses, business failure and household financial distress in the face of the massive 12.2 per cent drop in economic activity.

The Covid recession is New Zealand's first pandemic recession.

Eaqub says we have yet to see what impact the current recession will have on the way New Zealanders choose to run the nation and economy.

“I think the pandemic has ripped off a lot of band aids,” he says.

“We say very clearly, that we think inequality is bad, that we think housing is important, that we think healthcare should be of high standard, that we think education and justice are important, but at the same time we say we don’t want to pay more taxes.

“There’s a disconnect between what we say we value, with what we do,” Eaqub says.

Nowhere is that clearer than in the welfare system, he says.

As soon as it looked like middle New Zealand income earners might suddenly find themselves jobless the Government created a $490-a-week Covid Income Support Payment in tacit recognition that the welfare many had been paid for years was inadequate.

So far, Eaqub says he’s seen little fresh thinking.

Labour and National offer similar alternatives for the recovery, he says.

“Our brains are wired towards doing what we already know. We can’t imagine a different future unless we are forced to.”

But he's been heartened by the “team of ive million” coming together.

“Our ability to find consensus is something that’s a bit different from other countries. That’s a good lesson for New Zealand,” he says.

“Collectivism is not often on display. Our ability to produce consensus through collectivism is there, which is really positive. If you want to make brave and difficult decisions, we can.”