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16th August Economic Update – Tony Alexander

By Julie Halligan

Auckland International Airport Arrivals Customs


Tomorrow I will deliver a presentation at an immigration conference in Auckland where I am expected to discuss the economic contribution of immigrants. They’ll probably want some presentation notes. This is them.

Attendees will expect me to talk about things like infrastructure and housing impacts, benefit use, employment, tax revenue etc. I’m not going to. Partly this is because the jury remains out on the net impact measured using these traditional gauges. So why waste time rabbiting about something for which an end conclusion is not possible?

The 20th century business model meets the 21st century business model

I’ll be taking a different direction in my comments because the evidence of a collapse in business sentiment despite good economic conditions suggests many Kiwi businesses are struggling to adapt to the new technological revolution affecting almost everything we do. What we need from migrants is not proof of a positive fiscal impact 5, ten, or 15 years down the track (timeframes around which traditional impact studies coalesce). We need their skills in helping us adapt to a rapidly changing world which Kiwi businesses used to blaming the government, unions and Reserve Bank for hard times are struggling to handle.

But let’s start with the macro picture to set the scene.

Our economy has performed very well over the past four years with growth of almost 15% due strongly to booms in tourism, construction, and net immigration. There has also been assistance from trend growth in sectors like healthcare, aged care, digital, and non-dairy primary. Plus interest rates were cut 1.75% over 2015-16 and international oil prices fell strongly from 2014.

Inbound tourism is contributing to to our economic growth.

Looking ahead prospects for growth still look good and I am of the view that the sadness being expressed by the business sector will not result in a large economic dent. Supportive factors for growth include

-loosening fiscal policy
-an 8% fall in the NZ dollar over the past year
-low interest rates for potentially many years
-strong commodity prices
-strong construction (though minimal actual growth)
-healthcare, aged care, digital sector etc
-average world growth.

There are risks to growth coming mainly from

-an emerging market crisis centred around foreign currency debt burdens
-trade war
-capacity constraints
-poor NZ business adaptation to the effects of the technological revolution.

The NZ Twilight Zone

And this is where we enter the twilight zone. On the list of negatives we should have rising inflation, rising interest rates, and a rising exchange rate. But these factors have been absent for many years and look like remaining so.
There are many reasons for why inflation is staying low and a key one is inability of businesses to easily raise selling prices to cover higher costs. These days if a business lifts its selling price we consumers use new technologies to easily and often enjoyably search for alternatives online, anticipating a dopamine hit when we find something slightly cheaper. We may also slam the business through social media.

The Dopamine Rush of Online Shopping and Social Media

Getting price increases across the line these days is very difficult for most (not all) businesses and this is probably one factor behind business pessimism.

These pricing difficulties are not going to dissipate and businesses will need to change the way they operate to survive. New products will need to be developed (innovation), new distribution methods, new technologies used, new connections made with helpful collaborators, new data sources developed to deliver real-time useable market information.

But the NZ business sector is not well positioned to make the adaptations required to survive in the technological revolution through which we are now living.

NZ businesses tend to resist change & innovation or hiring experts

As discussed here recently, NZ businesses tend not to innovate, have poor digital offerings, focus strongly on lifestyle, and don’t focus enough on growth. And as discussed back in 2011, the typical Kiwi business culture is one of resistance to change, resistance to “book learning” and hiring of expert advisors, inability to understand foreign client requirements, unwillingness to accept outside capital and loss of some control, unwillingness to grow big and risk being chopped down like a tall poppy, and inadequate focus on export markets.

Change in the old days tended to be driven from the top down – new management systems, new bosses etc. But these days as we live this technological revolution, change comes from developments much further down the management scale and from outside parties. Innovation comes from those who feel unconstrained by old thinking, old business models, old hierarchies.

This type of new thinking and innovation comes from young people including migrants willing to bring in new ideas and test existing boundaries erected by conservative business operators.

Unconstrained by old business models, change & innovation is emerging from our youth

Thus, a second probable source of restraint on wages growth beyond business resistance because of pricing weakness is young people not looking for higher remuneration in one job or one firm. Instead they anticipate some payoff down the track through involvement in something NEW and highly profitable – the next Google or Apple or popular app. Their focus is on the new and on the enjoyment of being at the frontier of developments in potentially many fields. They don’t see themselves as helping run the old world like a toymaker’s apprentice, but making the future one. They embrace new learning and are used to seeing things as ever changing gestalts and not static linear processes.
For Kiwi businesses it is important to embrace the openness which young people can bring and not dismiss the “snowflake generation” and how it is hard to give them negative feedback without having some cry, demand a safe space, call the police, and file a PG.

The relevance of immigrants is this.

1. Most of them are used to far faster business environments than we have traditionally seen in New Zealand. They are used to bargaining, they are used to getting products into a market quickly before they are copied, and they tend to think forward to how their product needs to change to stay ahead of the competition. Immigrants can be better suited to help businesses handle the vast changes they see occurring than Kiwi owners and operators used to blaming the government or Reserve Bank when times seem tough
2. Immigrants can see things in different ways. Diversity is a key element to business success nowadays. Different people bring different ideas and ways of doing things and this cross breeding of methods and attitudes is far better suited to the cross breeding nature of technology development, mutation, and implementation than straight line “this is the way we do things around here” thinking.
3. On average over the past two decades we have suffered an annual net migration loss of 22,000 Kiwi citizens per annum. Immigrants are needed to help offset this “natural” flow of Kiwis, largely young innovative open-minded ones, offshore.

So in a nutshell…
• There are new pressures being felt by Kiwi businesses these days contributing to the plunge in their sentiment.
• Technological developments make raising selling prices difficult.
• These developments also continually threaten existing products, processes, markets, distribution channels etc.
• Labour availability has structurally declined and wages pressure hasn’t even come through yet the data tell us

NZ businesses need to think outside the box and adapt

The fact that government is being blamed despite the economy being firm, interest rates and the exchange rate low, commodity prices high etc., suggests NZ businesses are struggling to adapt to the new world.

In the Weekly Overview over the past few years we have attempted to highlight some of the longterm changes which businesses need to understand if they are to succeed going forward. We have written about business blindspots, trend changes in house prices, net migration flows, labour availability, inflation and interest rates, typical Kiwi business cultural impediments to success and economic growth, the growth of China, and effects of the technological revolution.

There are no simple answers, but whatever the solutions are they revolve around realisation by SME owners that the old world in which they have grown and managed their firms since the 1970s has gone. Not all have adapted. That is why for some their businesses are essentially worthless as they now place them on the market aiming for a sale to fund retirement.

Success going forward will require

• an openness to the different ways of thinking and working of young people nowadays including migrants,
• greater reliance upon growth through capital expenditure on new systems etc. rather than simply trying to hire more level pullers,
• greater collaboration with other firms in related fields,
• greater product experimentation and shorter shelf lives,
• embracing the implications of the growing environmental focus of societies,
• a shift away from thinking of margin management in terms of selling price alterations toward changes in products, addons, servicing terms, distribution systems etc.

On the rise..focus on the environment

Migrants are not the biggest answer to the problems facing NZ businesses. But they can be an important element in the mix.

Housing “Speculation”

It has become an article of faith amongst those who got their house price forecasts wrong in recent years or who would prefer house prices were much, much lower, that the economy has been driven by “housing speculation” and spending of housing wealth. Do these claims stack up?

If people are speculating on a thing how does that boost the economy? If more people bet online on the horses is the economy boosted? Only if the increased interest leads to growth in the breeding industry and more races being held.

So, has all the apparent housing speculation led to more houses being built and higher turnover for real estate agents?

The number of dwelling consents has risen from a multi-decade low of 13,500 in 2011. But that was always going to happen because the GFC effects would pass. The question is whether consents have been pushed not just above average, but more above average than usual during a period of strong growth.

Consents rose above the 20 year average of 23,400 in the middle of 2014. They now sit at 32,860 for the past year. Can the extra 9,000 per annum or so be considered to be the result of “speculation”. No. The last time numbers were near these levels, 33,000 in 2004, the country was enjoying an annual net migration gain of 42,500 people. This past year the gain has been 65,000 and a year ago 72,300.

More building looks like simply reflecting more people and catch-up after the lowest level of new construction since the 1960s when the population was below 3 million. There is no basis for claiming that “speculation” has produced a wasteful surge in building of houses. And everyone wanting house prices to be lower wants more houses to be built anyway – frankly we all do.

So all that leaves those claiming speculation has driven our economy is higher real estate industry activity and spending of higher house prices.

Turnover of dwellings rose from 55,000 to be above the 20 year average of 82,500 in the middle of 2015. The latest annual turnover was 74,000 and the peak was 95,000 mid-2016. The last time turnover peaked was 120,000 in 2004, again when net migration inflows were a lot less than they are now. It is hard to run any argument that the real estate sector has been a key driver of our economic growth in recent years or that if it were that this was due to “speculation.”

So we are left with spending of housing wealth. Is there evidence that people who have seen their house prices go up have boosted their mortgages, run up higher consumer debt, or cut their savings rate?

The ratio of household debt to the value of the housing stock fell from 30% at the start of 2012 as average house price inflation kicked up. It now stands at 24.7%. This is the lowest ratio since 1996. That argues against a view that people have taken their higher housing paper wealth and spent it.

But the ratio of debt to disposable income has gone from 146% to 166%. That suggests extra borrowing over and above that permitted by income growth has occurred. If so, that extra borrowing amounts to $32bn more than one would have otherwise expected. But taking 146% as the starting point is probably going too far as the decline from 157% pre-GFC probably represents the unusual impact of the GFC rather than normality. Let’s split the difference and start at 151%.

That delivers debt growth over and above “normal” expectations of about $21bn.

Over the six and a half year period from the start of 2012 to now private consumption spending adds up to almost $900bn. So the implied extra spending equates to a boost of about 2.3% or about 0.35% extra per annum. But total GDP adds up to $1.6tn so the boost from extra household debt perhaps caused by people spending paper wealth from rising house prices is 1.3% of GDP all up or on average 0.2% per annum.
It seems safe to say that some of the growth in house prices has been spent. But to say that the economy has been driven by a speculative fervour is not correct. That means absence of surging house prices does not lead one to conclude that either consumer spending growth or overall economic growth are about to implode.

If I Were A Borrower What Would I Do?

Nothing new. As we have been writing here for literally years now, inflationary pressures in NZ are being suppressed by new consumer resistance to price rises made possible by online search technologies. Plus wage rate growth is being suppressed by a wide range of factors we don’t yet fully understand. It adds up to a structural change in the relationship between the pace of economic growth, the pace of jobs growth, wages growth, and consumer price growth.
The Reserve Bank have for some time now been pulling back from model-based analysis of the inflation risk to take more into account these new structural factors and as we have been writing this past year, have now decided essentially not to raise interest rates until inflation is actually going up. Pre-emptive policy tightening has twice failed post-GFC.
Borrowers can look forward to a benign environment for a long period of time, especially in light of the new worries about world growth. For investors the news is bad in terms of returns on fixed assets, but good in terms of interest rate support for valuations of other assets like equities and property.
If I were borrowing at the moment I would remain happy to fix about two years for most of my mortgage. And given the slowdown in the housing market already recorded in Auckland and coming to the rest of the country, I’d be happy to bargain


Tony Alexander.co.nz

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