• Bankers Know Little and Care Less

    We were assured last week by the Deputy-Governor of the Reserve Bank, Grant Spencer, that New Zealand exporters had “adapted to” the overvalued dollar which, as interest rates climb, will go on rising.

    So that’s all right then.  Sadly, though, complacent and ill-informed statements like this do nothing to alter the grim reality; the current exchange rate – to say nothing of hikes in the dollar’s value yet to come – is doing, has done and will do great damage to our economy.

    Exporters – or at least some of them, if they are lucky – have “adapted to” this circumstance by merely surviving.  They have done so either by maintaining their prices in NZ dollar terms, at the risk of foregoing market share because their prices are thereby less competitive, or they have reduced prices in NZ dollar terms, thereby cutting profits and reducing the ability to stay in the market.  In either case, this is not the path to successful exporting.

    Exporting successfully is an expensive business.  Unless margins are good enough to make possible all the spending needed to cover all the additional costs, such as freight and commissions, to develop the overseas market through promotion and after-sales service, and to provide the re-investment needed for product development so as to keep pace with foreign competition, it is not worth the effort.   No wonder so many of our potential exporters either don’t try or give up quickly.

    Even our most successful exporters pay a price for the dollar’s overvaluation – just ask our dairy farmers.  Export profits are by definition lower than they would be if the dollar was at a more competitive level; even our best firms are therefore less able in the long run to keep pace with foreign competitors who don’t have to face the same currency head wind – and that’s to say nothing of those who are struggling at the margin.

    And it is not only exporters who suffer.  Everyone who looks for customers in the traded goods sector, whether at home or overseas, is at a price disadvantage by comparison with goods made by foreign competitors.  New Zealand producers who have never thought of exporting will still be on the back foot because imported goods will be able to undercut them on price in their own home market.

    Nor is it the case that the deleterious effects of overvaluation are limited to the traded goods sector.  The problems and reduced performance of that sector mean that the whole economy suffers; effective demand for prospective investors is reduced across the economy, profits are lower than they should be, unemployment is higher, investment is discouraged, and the trade balance is weakened and thereby acts as a constraint on growth.

    In that more stagnant economy, productivity growth and innovation are held back, and we become more and more dependent on the increasingly narrow sector able to keep its head above water in international terms.  In order to maintain the living standards we insist we are entitled to, we find ourselves not only using our overvalued dollars to buy imported consumer goods at the expense of domestic production but we then try to cover the cost by selling off our assets to foreign buyers and borrowing more from foreign pedlars of short-term “hot money” who demand an interest rate premium as their reward.

    At the same time, we prepare to enjoy the consumer and import boom that accompanies the huge volume of bank-created credit that is fuelling the rise in house prices in Auckland in particular; as first-time buyers are shut out by those rising prices, those who already own their houses respond to the growing value of their equity by feeling better off and therefore spending more.

    As a result of that unsustainable consumer frenzy, the Reserve Bank then takes fright and – focusing solely on its single remit of controlling inflation – finds another reason for raising interest rates.  And it is of course the prospect and reality of high interest rates that provokes the overvaluation of our dollar in the first place.

    Every step in this vicious circle is foreseeable, yet the Reserve Bank contents itself by advising the productive sector to “adapt” – the equivalent of a doctor telling a patient suffering a wasting illness caused by drinking polluted water that he should go on drinking but “adapt to” the consequences.

    The tragedy is that the longer we fail to face the reality of our situation, the faster becomes the trip round the vicious circle and the deeper becomes the downside.  Each time we touch the bottom of the orbit, the less chance we have of hauling ourselves back up.

    What we need now is some new thinking – not another circuit of a policy proven to fail.  The Bank of England, no less, showed last week a willingness to face facts when it published a paper by three of its economists acknowledging for the first time that virtually all the money in our economy is created by bank lending – and that raises the interesting question of what that lending should be for.

    Our own Reserve Bank, however, evidently remains stuck in a rut of its own creating.

    Bryan Gould

    31 March 2014




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