Treasury warns stronger growth may be unsustainable as imbalances are not unwinding (Update 1)

Treasury has warned in an otherwise upbeat Monthly Economic Indicator survey that the current economic rebound may be unsustainable and was not unwinding New Zealand's unbalanced current account deficit and international debt. (Updates with comments from Finance Minister Bill English and the NZ Manufacturers and Exporters Association (NZMEA)) The department that reports to Finance Minister Bill English said a pick-up in growth in late 2009 and 2010 may again be domestically oriented, as imports recover due to a high NZ dollar, retail sales increase and the housing market rises off its recent lows. But despite the 'green shoot news' that New Zealand's economic outlook has become more positive in recent weeks, Treasury warned that the composition of the pick-up in growth led to questions arising as to its sustainability.

"(T)here are several factors that suggest that the pick-up in New Zealand's growth that is likely to occur through late 2009 and 2010 may again be domestically oriented," Treasury said. "This is likely to see more of a recovery in imports than was expected in the Budget Forecasts. Ultimately this will mean less of a narrowing of the current account deficit and continued dissaving by households. With this occurring at a time of significant fiscal deficits, New Zealand's net international liabilities are likely to continue to trend upwards over the medium term, from the March figure of 98% of GDP." Treasury reiterated fears that the high NZ dollar was holding back an export-led recovery, especially as global demand for New Zealand's exports had started to rise again. "Continued rises in the exchange rate over August meant that the New Zealand dollar over July and August was around 21% higher than in the Budget Forecasts, limiting the gains from the recovery in overseas demand. There are also signs that domestic spending may be increasing with retail sales volumes recording their first quarterly increase in seven quarters in June." "Together these factors suggest that imbalances such as the current account deficit and household indebtedness are less likely to unwind significantly." "Net migration has risen, and is likely to rise further, as departures have fallen. Stronger population growth is one factor helping promote a recovery in the housing market...with house prices having grown modestly over much of 2009. It is also one factor, alongside the improved global outlook and higher confidence, which will lead us to revise up our economic forecasts for the Half Year Update." "However, the composition of growth may mean that stronger growth will prove unsustainable. In addition, with tax revenue behind forecast, a stronger economic outlook may have a more limited impact on the fiscal position." Bill English chimes in Later on Tuesday Finance Minister Bill English told reporters he was also concerned about an unbalanced recovery. "Our concern is that in the longer term we need a sustainable recovery -- a recovery that is built on more debt and higher prices for houses isn't going to last too long," he was reported as saying. "We're looking for how to make sure we get a sustainable, export-led recovery." English said it was too early to say the economy was recovering. "We're coming off the bottom of a long recession but we need to have the economy moving quite a bit faster to absorb the jobs that have been lost and give people a sense of job security. That's our task over the next two or three years." NZMEA says government must respond to warning The New Zealand Manufacturers and Exporters Association said the government must act on the Treasury warning. "With house prices and consumer spending starting to increase again, it is looking increasingly like we will see another domestic economy bubble form; much like the one that just burst," said NZMEA Chief Executive John Walley. "This growth profile simply sets New Zealand up for a further economic shock further down the track. New Zealand cannot pay its way in the world while the export sector continues to contract." "It is important that the Government takes steps to encourage investment in the tradeable sector to correct these imbalances. A more stable exchange rate and a balanced tax system are the keys to achieving this," Walley said. The Reserve Bank also needed an additional credit control weapon in its arsenal to control inflation more effectively without pushing up the currency. "A Capital Gains Tax is also needed so that all forms of income are taxed allowing more investment to flow towards our productive industries," he said. "The Treasury has spelt out the risks to the economy; now it is time for the Government to take notice."