By Bernard Hickey New Zealanders don't know how lucky we are that our economy is joined at the hip to the lucky country. Also luckily for us, our creditors aren't too worried about just how lucky we are rather than how virtuous we are. They're just going to lend us the NZ$240 million a week we're asking for without asking too many questions and just assume we're a suburb of Australia, which is a province of China. It's worth pointing out our luck again after the last week's news from Australia, which appears to powering a new confidence (or complacency) at the top of New Zealand's policy making tree. Listening to Reserve Bank Governor Alan Bollard and Finance Bill English in recent weeks has been like listening to someone explain how they got away with the economic policy makers' version of selling a slightly dodgy old campervan to a foreign tourist for more than it was worth. They hope the tourist will get around the South Island without any trouble, but they're not absolutely sure the head gasket won't blow somewhere on Arthur's Pass. Bill English talked this week about having to convince 28 year old bond traders in New York to buy our government bonds. All they wanted to know, he said, was how closely connected to Australia we were. "All I have to tell them is we're hooked in to Australia, which is hooked into China," English told a business audience in Auckland with a wry and almost embarrased smile. Bollard has also pointed to the same foreign investor confidence, saying our connections to China via Australia are positive for our image on international markets. O so lucky Let's look first at just how lucky the lucky country has become.
Yesterday Australia reported its economy grew 0.9% in the December quarter from the September quarter and has grown 2.7% from the same quarter a year earlier. Unlike the rest of the developed world, Australia avoided a recession. Its Reserve Bank also increased Australia's Official Cash Rate by a further 25 basis points to 4% this week, the fourth hike inside 6 months. The key to Australia's strength was laid bare in an important speech last week by Reserve Bank of Australia Deputy Governor Ric Battellino on the sizeof Australia's latest mining boom. The numbers are astonishing. This boom driven by China is generating the biggest boost to mining investment in Australia's history. The increase in Australia's Terms of Trade is bigger than anything it has seen since a temporary spike during the Korean War wool boom of the early 1950s. The extra value being added to Australia's GDP is bigger in the current boom than in any since the minerals boom of the late 1890s. Not only is the boom bigger, but Australia seems better able to handle the surge in cash coming in through the ports. This time it has a floating exchange rate, which has helped soften the inflationary impact. It also has more flexible labour and goods markets. Here's Battellino commenting on how it could last for some while:
Past booms do not seem to have lasted more than about 15 years before resource depletion, or international or domestic developments, acted to slow economic activity and bring the boom to an end. On this occasion, the growth potential of countries such as China and India suggests that the expansion in resource demand could continue for an extended period, though this will depend at least to some extent on the economic management skills of the authorities in these countries, not to mention our own.
Our connection at the hip This is rubbing off on us in good and bad ways. The good ways are obvious and getting better. Australians are buying more of our stuff, although it's not always obvious what type of stuff. English pointed out this week that New Zealand's three biggest exports to Australia are petroleum from Taranaki oil, gold from Otago and Coromandel and wine from Marlborough, Hawkes Bay and Gisborne. Australia is our largest trading partner and buys around 25% of our exports. They're also visiting us more often. Australian tourist numbers were up 16% in January from a year ago. The drop in our exchange rate versus the Australian dollar from 84 cents a year ago to 76 cents overnight is also helping to make us more attractive. Apparently, the most popular short holiday for rich Sydneysiders right now is a 4 day jaunt to Waiheke Island. Let's hope the snow comes back again to the Southern Alps again this winter. If it does, the ski-fields will be swamped with Aussies at this rate. But the bad sides are just as obvious. Statistics NZ figures released this week show the exodus of our best and brightest professionals and trades people to Australia has resumed again. The big reason why our net migration surged in the last year to over 20,000 was a reduction in the number of New Zealanders leaving to live in Australia because of the jobs slowdown there. But that exodus stopped in August and has resumed in earnest in the last three months as the demand from Australia kicked in again. If anything, the wage gap with Australia will widen and we risk being hollowed out. The danger is New Zealand ends up as a sleepy dormitory suburb full of old, expensive pensioners, beneficiaries, farmers and bureaucrats. Any attempt to catch Australia would require comprehensive tax and economic reform, neither of which the current government has much political appetite for. Why complacency is not an option One conclusion from all this slapping on Australians' backs is that we have nothing to worry about. Some might say that that all we have to do is sit here off the east coast of the great continent and wait for the re-processed Chinese cash to rain down on us. It's not as easy as that because our fundamentals are not nearly as strong as Australia's, although we may also benefit from an increase in prices for soft commodities such as milk, fish and logs over the longer term if China and India keep delivering the demand. Our net foreign debt position is parlous, even if the 28 year old bond dealers in New York appear not to care. Our net foreign debt level is set to rise over 110% of GDP by 2014, Bill English revealed this week. That is in line with Greece, Portugal and Spain, all of whom are under attack by international markets right now for spending too much foreign money. The difference is that our foreign debt is owed privately to the rest of the world by Australian owned banks (on behalf of New Zealanders), rather than owed publicly by the New Zealand government. This banking umbilical cord to Australia is another crucial reason why we've gotten away with selling the dodgy campervan to the foreign tourists. Foreign creditors believe, rightly, that Australia's banks are ultimately guaranteed by the Australian government and Australian savers. Prime Minister Kevin Rudd proved that in October 2008 when he gave the banks an Australian government guarantee and when Australia's (compulsory) savers pumped A$20 billion of fresh cash as equity into the banks' balance sheets through a rash of share issues in the depth of the crisis. A good chunk of that was promptly sent across the Tasman to bolster their branches in New Zealand. Also, luckily for us, Australia's net foreign debt position is pretty sound at around 50% of GDP. Australian public foreign debt is very low. Beware grumpy Australians and Chinese busts The problem comes when the Australians get grumpy about our free-loading on their success or our failures start to drag on them. We see occasional flashes of this from the CEOS of the Australian banks (notably and ironically from our own Ralph Norris at CBA), who complain about the taxes and pesky regulations they face on this side of the Tasman. How long before this fundamental erosion of our sovereignty is exploited by the Australians? The Australians tried to flex their muscle in 2006 when then Treasurer Peter Costello and then Finance Minister Michael Cullen almost pushed through a single Trans-Tasman banking regulator. Only a spirited fightback behind the scenes from the Reserve Bank fended that off. The other vulnerability is the source of all this good fortune: China. Alan Bollard is sanguine and optimistic about China's ability to perpetuate the miracle ad infinitum. But what if the Chinese can't prevent the real estate bubbles in Beijing, Shanhai and Guangdong from bursting? What if the fundamentally unsustainable nature of China's fixed exchange rate regime with America is not resolved? What if China won't or can't turn itself from an exporting factory into a consuming economy that exports. And what if America's consumption of Chinese exports slows down so much that the entire card trick fails? These are the reasons why, ultimately, we can't rely on Australia's luck forever. At some stage we need to reform our economy so we can stand up on our own feet instead of having to lean across the Tasman for support and hoping the Chinese cash never stops raining down. I welcome your thoughts Here's a video version of this comment. Also below is an excellent song by a New Zealander about our fundamental luckiness. He now lives in Melbourne.