Opinion: All credit to the nation's spenders

By Kate Perry of NZPA

Friday 23rd September 2005

Meet Barry Jones. When politicians talk about mainstream New Zealanders, Barry likes to think they're talking about him.

Bazza enjoys a champagne lifestyle. Trouble is he hasn't quite achieved a champagne income. While he's not struggling along on a beer income, at best it could be described as Lindauer.

Barry is determined not to let a little thing like cashflow get in the way of his enjoyment of what he sees as the necessities of life.

Things like nights out at the pub, eating out, house renovations, new car, regular holidays and other must-haves like the tiny new iPod that just hit the market.

So he ramps up his credit card, hits up the bank for the biggest, longest mortgage he can get, and keeps his student loan repayments to the minimum.

At the end of the year, if Barry cared to look, he'd discover he was in the red by about $30,000. If you or I were Barry we could expect a sit down talk with our bank manager about getting our spending under control - full of sensible advice about outgoings not exceeding income.

What would we expect the experts to say if we multiplied Barry's situation by about 4 million and set it on the world stage? We'd need to change a few of the details - like his name for example.

In the new scenario, let's call him the New Zealand economy, and let's call his overspending the current account deficit.

When the current account figures were released this week the experts were pretty much unanimous - the deficit's a whopper.

The annual current account deficit came in at a massive $11.89 billion, swelling net foreign debt to $124.4 billion - equating to a debt of just over $30,000 for every New Zealander. Economists estimate the annual deficit is equivalent to 8.0% of gross domestic product (GDP).

Traditionally ratios over 5% of GDP have been cause for concern. The US is running a current account deficit equal to 6.3% of GDP, last week reporting a second quarter deficit of $US195.7 billion ($NZ284 billion).

The International Monetary Fund (IMF) has described the superpower's current account deficit as unsustainable.

An Associated Press article last week on the US deficit warned of dire consequences if market forces were not able to deal with the deficit without disrupting the economy,

The article warned that if the blow out continued, a worst case scenario reaction would lead to foreigners dumping US stocks and bonds, sending stock prices plunging and interest rates soaring.

"Such a stampede for the exits by foreigners could be enough of a jolt to push the US economy into recession," AP said.

If that's a possibility for the US - which is the equivalent of Donald Trump to our Barry Jones - what are the implications for New Zealand?

International credit rating agency Standard & Poor's isn't too worried.

"From our point of view, it is a concern and a weakness in relation to the credit-worthiness of the Government, but it's not a huge weakness because there are sufficient mitigants," Fharad Jain a director of S&P's sovereign and public finance ratings unit told NZPA.

These mitigants include a strong Government operating surplus (excluding revaluations and accounting changes) of $8.8 billion, when most governments around the world are running deficits.

"So if a high current account were to result in a currency deterioration, and as a result, impact on the private sector or the banking sector, the Government has enough flexibility to support that," Jain said.

The US economy doesn't have the same backup, running a "double-deficit", with both its current account and government accounts deeply in the red.

Barry might be heavily leveraged, but don't forget that Donald Trump's casino empire teetered on bankruptcy earlier this year.

So how did New Zealand's deficit get so big?

Well, people like Barry are at least partly to blame, according to BNZ economists.

BNZ said the central problem with New Zealand's external accounts was essentially found in the country's households.

"After all, they are the ones sucking in the bulk of imports and borrowing $16 billion (11% of GDP) per annum as counterparty to funding from abroad..."

They went on to say that one of the most effective ways to cool household spending was by clamping down on the ever popular housing market - by way of another interest rate hike.

Since the release of the current account figures, the BNZ has increased the odds another interest rate hike this year to a 40% chance. This would push the official cash rate up to 7%.

But another rate hike would do nothing to ease the pressures brought about by the strong New Zealand dollar, which is attractive precisely because our high interest rates makes it a high yield currency.

Big spending and low saving by householders have contributed to the deficit, but so too has the strong New Zealand dollar.

The strong currency has tilted the country's trade sector, by not only limiting exporters' gains from high global commodity prices, but lowering the price of imported goods, which consumers like Barry are only too happy to snap up. The imbalance saw the goods trade deficit hit a record $3 billion for the June year.

Economists warn that continued strength in the New Zealand dollar, coupled with ever increasing oil prices looks set to further increase the imbalance and cause an even bigger current account blowout. Most are predicting the deficit to creep up to at least 8.5% of GDP next year, with some predicting it could even hit 10%.

This is well in excess of the Reserve Bank's optimistic prediction made last week the deficit would peak at 7.25% of GPP. Even at that level, bank governor Alan Bollard said it was unsustainable.

While a strong kiwi will exacerbate the problem, a monster deficit is likely to bring about the currency's downfall - regardless of its yield outlook.

The deficit has to be bridged by borrowing from overseas and economist warn foreign investors may be leery of lending when the deficit gets too big. When that happens, the New Zealand dollar is likely to plunge.

We could face the ugly scenario of high and rising interest rates and a plunging currency as happened in the late-1990s.

But ASB economist Kate Skinner said the deficit was unlikely to bring down the kiwi on its own.

"Rather than being the initial catalyst, a widening current account deficit is likely to exacerbate the depreciation in the New Zealand dollar caused by either a strengthening US dollar and, or, a deteriorating growth outlook for New Zealand," she said.

Meanwhile, Barry has decided to tighten his belt and bring his credit problems under control. He resolves to try to buy New Zealand-made from now on and cut up a couple of his credit cards.

He may even take his parents' advice and open up a savings account. But not until he's updated his cellphone. A new suit might be nice too. Not to mention that iPod...

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