The IMF's given New Zealand a pat on the back for its economic management in the wake of the global economic downturn.
In their final report as part of their annual check-up on New Zealand, the IMF's executive Directors commended the authorities’ strong track record of prudent macroeconomic management in the wake of the global economic downturn and devastating Christchurch earthquakes.
The IMF team was in New Zealand in March, following which its report was compiled, which has now been commented on by IMF executive directors.
The directors said that while a recovery was under way in New Zealand, growth this year was likely to remain modest, with an increase in construction activity offset by headwinds from budget deficit reduction, the strong dollar, and the recent severe drought.
"Risks arise from persistent low national savings and large external liabilities, and from high and rising house prices," the said.
The directors, however, welcomed the authorities’ continued efforts to reduce these vulnerabilities.
They agreed that current "accommodative" monetary policy stance was appropriate, but warned that a tightening in monetary policy may be warranted if house-price and credit expansion begin to fuel inflationary pressures.
The IMF report said although housing affordability figures were difficult to interpret, most showed a significant deterioration in New Zealand during the last two decades.
"The median house to income ratio rose from 3 in 2000 to about 5 in 2007, before declining to about 4½ in the last five years as incomes outpaced nominal house price growth.
"This ratio is somewhat higher than that of several peer countries. Despite the recent decline, various measures still point to overvalued house prices [in NZ].
"Model based analysis suggests an overvaluation of about 25%
"Price income ratios are 20% higher than the average of the last three decades. Price to rent ratios, which also rose significantly during last boom, show an even larger overvaluation, although rent values in New Zealand are distorted by the large stock of public housing, which serves about 5 percent of the population," the report said.
The IMF Directors welcomed NZ's medium-term consolidation plan and its focus on expenditure restraint.
"The planned pace of deficit reduction strikes the right balance between sustaining aggregate demand and limiting public debt growth. It withdraws fiscal stimulus at the right time by making room for increases in reconstruction spending. It also reduces pressure on monetary policy, creates fiscal space, and could help to raise national savings."
The IMF directors said the "relatively modest" New Zealand public debt provided some scope to delay the planned deficit reduction in the event of a sharp deterioration in the economic outlook.
They also noted that New Zealand’s large net liabilities reflect historically low household savings rates and a structural savings-investment imbalance.
They said the causes of low household savings would need to be addressed to reduce pressure on the exchange rate and limit current account deficits.
"In this context, directors welcomed the shift in the composition of taxation from income to consumption taxes and looked forward to follow-up on the conclusions of the Savings Working Group."
The IMF directors said factors contributing to the "overvalued" Kiwi exchange rate included a continuing gap between domestic and foreign interest rates and increased portfolio flows.
"Directors agreed that banks remain sound, with recent stress tests showing that the major banks could withstand a variety of sizeable shocks. They observed, however, that banks remain exposed to highly leveraged borrowers and to rollover risks associated with large short-term offshore funding needs.
"Directors welcomed the reserve bank’s consideration of using macroprudential tools in a judicious way to limit risks in the housing market, as a complement to macroeconomic and microprudential measures."
Finance Minister Bill English welcomed the report.
"Coming out the day before the Budget, this is a strong vote of confidence in the Government’s programme over the past four years."