“With global recession staring us in the face, now is not the time for the faint of heart,” said BERL Chief Economist Dr Ganesh Nana.

“Decisive leadership is required in this time of crises. The hits to sentiment continue and this acts against the chance of any rapid consumer-led recovery. Even with tax cuts and lower petrol prices, the seemingly endless stream of negative economic news is likely to keep consumers wary. And an export-led recovery must await a recovery in global demand, which does not appear be an immediate prospect.”

These considerations underline the importance of decisive leadership. Such leadership is required to drive an accelerated infrastructure investment programme that could successfully underpin a recovery scenario. The need for the decisive implementation of such a programme can not be stressed too much. With construction capacity now becoming available it makes common sense to ensure public sector construction demand steps in to stop this capacity yet again being lost overseas. Inevitable delays in starting projects and budget issues are likely to dent the political will for such a programme. All in all the next few months will be a true test for the country’s leadership.
In their latest assessment of the prospects for the New Zealand economy released today, BERL opt for a weak infrastructure investment led recovery, with GDP in the year to March 2009 expected to be down 1.3% on the previous year. Positive growth returns in the following March years, albeit at modest 1.8% and 2.6%.

Ganesh's interview with Michael Wilson from TV3 can be viewed here.

Summary Picture

• Global financial turmoil continues and a quick fix should not be expected. While many of the world’s economies may well recover from ‘technical recession’ status over the next six to 12 months, a longer period of somewhat modest growth remains in store thereafter as changes heralding new credit systems and processes are established.
• New Zealand’s recession (actual if not technical) continues into the first half of next year.
• Thereafter the nature of any discernible upturn could take one of three scenarios: a consumer spending led recovery; an export led recovery; or an infrastructure investment led recovery.
• We opt for a weak infrastructure led recovery. For either exports or consumer spending to take a leading hand in the recovery, we must await the cessation of negative sentiment and/or some recovery in global demand.
• Average GDP growth for the year to March 2009 is forecast to be negative 1.3%, as further contractions over the September and December quarters take their toll. Positive growth of 1.8% and 2.6% is expected in the following two March years.
• New Zealand’s OCR could decline to 3.5%, in line with a 1.5% premium on world rates of 2% due to New Zealand’s international debt position.
• The NZ$ exchange rate is likely to overshoot on the downside to around 45 US cents, or near 50 on the TWI. Assuming some return to normality, a reversal to within the 50-55 on the TWI range would be an appropriate level for long-term export development. Whether the exchange rate stays in such a range for such long-term development to occur remains a moot point.

Our assessment

With global recession staring us in the face, now is not the time for the faint of heart. New Zealand’s officials, along with a host of others around the globe, are busy dusting off previously trashed text books to identify ways and means of underpinning economic activity. Across the board measures are being sought and implemented to minimise the impact of the financial market meltdown on real economic production and employment. It is indeed welcome that ideological concerns have, in the main, given way to more practical and pragmatic responses to this crises.

A feature of the past three months has been how quickly the basic financial and economic world situation has unravelled and how unprepared authorities around the world have been. When century-old banks are falling over, Swiss banks are requiring government aid, and General Motors is unable to get bridging finance to see it through a drop in demand, the situation is clearly different from anything in living memory. Models based on relationships over living memory, will find it difficult to reflect the relationships now present.

Monetary authorities around the world are doing their best to maintain liquidity, but preventing the emerging impact on the real economy may be beyond them. The problem of “deleveraging” inevitably involves credit cutbacks on a wide scale. It may be possible to bail out General Motors, but doing the same for the rest of the economy is a completely different matter.

So, despite the actions of governments and authorities around the globe, do not doubt the severity of the crises that remains ahead. And the consequential changes in the new world that awaits us in the post-sub-prime era have yet to be settled. While many of the world’s economies may well recover from ‘technical recession’ status over the next six to 12 months, a longer period of somewhat modest growth remains in store thereafter as these changes and new financial systems and processes are established.

In the short term, New Zealand’s recession (actual if not technical) continues into the first half of next year. Thereafter the nature of any discernible upturn could take one of three scenarios:

A) a consumer spending led recovery

B) an export led recovery

C) an infrastructure investment led recovery.

It is fair to say that early discussion around the Forecast Panel was evenly divided amongst these options.

Factors in favour of a consumption led recovery include tax cuts and additional discretionary spending released by lower petrol prices. However, acting against this scenario was general sentiment remaining negative – in particular, with little recovery in the housing wealth dominated Auckland spend – and the exchange rate impact on the price of many consumer imports.

In favour of scenario B was ongoing growth in China and east Asia, and with Australia relatively unscathed compared to the UK, US and Europe. Despite slowing growth in these markets, there remain opportunities for countries like New Zealand to maintain our small slice of these large pies. The move to a competitive exchange rate adds to exporters prospects.

Against scenario B, was the possibility that global growth recedes even further and for longer, with negative sentiment domestically acting against business expansion into exports.

Scenario C was widely agreed to be essentially policy driven. In favour were the many projects that have already progressed through consent stages, along with the many that continue. With construction capacity now becoming available it would make common sense to ensure public sector construction demand is sufficient to stop this capacity yet again being lost overseas. Against this scenario was likely delays in starting such projects, budget issues likely to dent the political will for such a strategy, and/or its overall magnitude.

Arguments against scenarios A and B eventually focussed on the impact of ongoing negative sentiment domestically and globally. Despite our view that employment growth will hold up relatively well, the messages from extreme daily volatility in share prices, along with continuing news of corporate bailouts abroad, will weigh heavily on consumer and business sentiment. Even in a best case scenario it is likely that sentiment over the coming year will remain fragile. For these reasons the Panel discounted the possibility of either consumer spending or exports leading a rapid and/or strong recovery in the latter half of calendar 2009.

We note the latest RB forecasts, as well as the Treasury PREFU, tilt towards an export-led recovery scenario. While an attractive option, the risk to this scenario lies clearly with a prolonged global downturn.

These considerations underline the importance of decisive leadership from policy makers if scenario C – our remaining option – is to play a meaningful role.

Looking ahead, average GDP growth for the year to March 2009 is forecast to be negative 1.3%, as further contractions over the September and December quarters take their toll.

Reduced consumer spending over the next couple of quarters is expected to take the annual average growth for this component into negative territory for the first time since the early 1990s. However, quarterly growth is likely to resume at a subdued level in early 2009 as the impact of tax cuts and lower petrol prices underpin discretionary incomes.

As to monetary policy, the rest of the world is heading towards 2% all round. A small premium to reflect NZ’s level of indebtedness of over 80% of annual GDP is probably inescapable. Estimates indicate such a premium to be of the order of 1.5%-points, which suggests an OCR of 3.5%. Of even more importance is that such cuts get passed on to the business sector. While rates for home lending have fallen, New Zealand banks continue their unfriendly stance towards the business sector with interest rates still in double-digit territory.

We remain relatively optimistic on employment growth. The actual measures of employment in the Household Labour Force Survey (HLFS) and Quarterly Employment Survey (QES) have generally been holding up better than most recognise. Certainly there is a little softness in construction, having increased by 50% in the last five years, but there is not evidence of wholesale across-the-board declines. In fact these measures are trending towards flat, or zero, employment growth.

The year to March 2010 is slightly more optimistic with positive GDP growth of 1.8% led by the boost from the government investment programme. Positive growth is also forecast for household consumption and export volumes, although theirs is still very much a secondary contribution. For either of these components to take a leading hand in the recovery, we must await the cessation of negative sentiment and/or some recovery in global demand.