Time to hit the panic button on our $34 billion balance of payment deficit?

Tuesday, 18 April 2023

Favourable changes in the country’s capital account have protected the kiwi dollar from the rising trade deficit, up to now.

ANALYSIS: Concerns over rising housing prices, negative equity, soaring interest rates, runaway inflation and a looming recession have jostled for the limelight at different times over the past few years.

But a slow-burning problem has been developing under the radar, which is the country’s burgeoning balance of payments deficit.

Stats NZ has regularly reported the deficit hitting new records, so each new high has barely qualified as “news”.

But the latest deficit, $33.9 billion or 8.9% of GDP in the year to the end of December, is as ANZ chief economist Sharon Zollner puts it, “beyond what anyone would consider sustainable”.

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The deficit measures the difference in the value of imports and exports along with the cross-border flow of funds from the likes of interest payments and dividends.

Simply put, the country hasn’t been paying its way, in part due to buoyant consumer demand for imports, but also because of the post-Covid decline in international tourism and foreign students.

$33.9b is a staggering deficit and might appear an unsurmountable gap to close.

If the country doubled its wine exports and leading technology exporter Fisher & Paykel Healthcare miraculously tripled its export revenues, that would trim the deficit by $5b.

If people also completely stopped importing cars and car parts, that would close the gap by a further $11.5b, halving the deficit – but no more than that.

The IMF observed last week, that as a proportion of GDP, the deficit was the largest posted by any developed economy, bar Greece, and forecast that while it would fall to 7.2% of GDP next year and 5.3% in 2028, only Cyprus would then be faring worse.

ANZ senior economist Miles Workman says it sees the deficit narrowing to about 5% of GDP within two to three years, still above its historical norm of 3.5% to 4%.

One of the reasons the kiwi dollar hasn’t fallen off a cliff in response is that the country’s capital position has been improving since the GFC, thanks largely to rising prices for overseas equities and foreign bonds, aided also by currency movements.

While the current account deficit has been gradually deteriorating, the difference between the value of the investments that foreigners hold in New Zealand and the value of investments that Kiwis hold overseas in the likes of Kiwisaver schemes and NZ Super has narrowed, at least as a proportion of GDP.

National Party finance spokesperson Nicola Willis says it will have more to say soon about cutting “red tape” for farmers.

The Treasury noted in September that New Zealand’s net liabilities, as measured by its net international investment position, roughly halved to 45% of GDP, between 2009 and 2022.

That had allayed many of the concerns about the sustainability of the deficit that were to the fore prior to the GFC, it concluded.

But Workman doubts that’s a trend we can rely on.

“We've basically found a whole lot of extra assets under the sofa cushions. But can you realistically rely on valuation changes to offset current account deficits? I don't think we can.”

Zollner cautions that just because credit rating agencies have been relaxed about the current account deficit up to now, that’s no guarantee they will be in future.

The risk, as she sees it, is an attack of nerves akin to the one that threatened to engulf mid-sized US banks in the wake of the failure of Silicon Valley Bank.

“If a country with a large current account deficit experienced stress, investors might start looking sideways at other countries with large current account deficits.

“Investors tend to move like schools of fish. When some risk emerges somewhere, then everyone immediately starts digging around to find out who else might be exposed.”

The danger that comes with a very large current account deficit is that you “lose control of your own destiny”, she says.

“If the market decided they weren’t funding our lifestyles any more, then the exchange rate would fall out of bed, that would drive up inflation, the Reserve Bank would have to raise interest rates by more, and that could cause a very hard landing.”

The hope is that a recovery in international tourism and international education will help defuse the deficit before it comes to that.

National Party finance spokesperson Nicola Willis talks up the prospects of incremental gains in agricultural exports making a difference and suggests regulatory reforms could help achieve that.

“Sometimes people say, ‘why is National so focused on farmers?’ and the simple fact is they pay a lot of bills in our country,” she says.

“If you get incremental growth consistently of 2% or 3% or 4% or 5%, each year, that does add up significantly over time.”

Willis says farmers have told her they’ve faced “a tidal wave of new red tape on everything from the rules around pasture on slope, through to the way they report their water catchment information”.

“I don't think anyone's arguing we shouldn't have good environmental regulation, but it should be a lot less prescriptive, more outcome focused, and a lot more attuned to regional requirements and that's certainly an area National will be saying more about over the next few months.”

Zollner suggests curbing spending on imports is going to need to be the bigger part of the solution, especially given the trend towards a smaller national dairy herd is probably going to need to continue.

“It seems we have pushed things past some kinds of environmental limits there.

“The trend would seem to be towards less intensive farming practices, which means it's going to be very difficult to grow primary export volumes.”

The political imperative may be being seen to be doing something, even if that’s just being seen to care about business successes, to avoid the risk of coming across as being out of touch with a genuine problem unfolding in the real economy.