Fitch Ratings has affirmed New Zealand's long term sovereign credit rating at AA+, but has warned that it is vulnerable to a shutdown in foreign debt markets. "New Zealand's sovereign credit strengths, which include a sound fiscal position relative to the 'AA' peer group and credible monetary regime, will certainly be tested in the midst of the liquidity crunch in international credit markets and the synchronised global economic downturn," said Fitch Asia's Sovereigns director Ai Ling Ngiam. "The economic adjustment in New Zealand is expected to be rather pronounced, given the country's elevated household debt burden relative to income, persistent current account deficits and high net external debt," said Ngiam.
A "hard landing" for the New Zealand economy has become more probable based on the rapid deterioration in global credit conditions, an adverse terms-of-trade shock for commodity exporters and a steep housing market correction that is already affecting consumption. Banks have been translating their higher wholesale funding costs into tightened credit conditions for households and businesses, Fitch said. Previous growth drivers of robust household demand, residential fixed investment activity and strong commodity prices had turned into strong macroeconomic headwinds, and Fitch forecasts real GDP contractions of 0.3% in 2008 and 1.6% in 2009. The New Zealand government surplus of 2.6% of GDP in 2008 would be transformed into a deficit of 1.6% of GDP in 2009. Automatic fiscal stabilisers and the application of a counter-cyclical discretionary policy would reverse the central government's cyclically-adjusted surplus into its first deficit position since 1994. "Even so, the longstanding record of fiscal prudence, marked by reductions in general government debt and net public external debt, will leave the overall fiscal position well-placed to weather the economic downturn," said Fitch Recurrent central and general government surpluses have allowed the public debt to more than halve from 65% of GDP in 1993 to a projected 24% in 2008. New Zealand easily ranked as among the least indebted of 'AA'-range nations. However, Fitch warned New Zealand's reliance on extensive foreign borrowing to finance its large current account deficits was a problem. "The possibility of disruptions to capital inflows implies a considerable risk to liquidity conditions within the domestic financial system. That, in turn, could increase sovereign credit risk as a result of the contingent sovereign liability associated with the banking sector," Fitch said. "A sizeable portion of banks' short-term funding requirements are falling due in an environment of heightened global risk aversion, and rollover risks are relatively high with the majority of banks' non-resident funding falling due within 90 days," it said. "An important mitigating factor with respect to New Zealand's external obligations is the fact that about half of external debt is denominated in New Zealand dollars, and the remainder is largely hedged to offset exchange rate fluctuations. Hedging may be more difficult, however, with global carry trades unwinding," it said. "The hard landing scenario points to a likely correction in private sector savings that could result in a lower current account deficit and an improvement in net external debt." Fitch said the structure of the balance of payments may help New Zealand avoid a more severe adjustment to a reduction in international financing flows because inflows from Australia were significant, and are less likely to be prone to sudden stops.