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APR 12

Government targeting the wrong deficit




The Government has been going to some lengths to ensure a Crown surplus in 2014/15 and this is an important policy objective. However, Government deficits are not the only New Zealand debt problem. Government influence beyond the Crown accounts need attention; more policy focus on a balanced current account is necessary.



As shown in the graph the current account has been in deficit for almost all of the last decade and the trend is heading downwards again. Our credit rating downgrades last year hinged upon this high level of debt and projections that it would worsen in future years, and it is clear that this debt situation also undermines the competitiveness of our traded sector, which in turn drives the current account towards even greater deficit.

At a personal level running a current account deficit means spending more than is earned; the gap is filled from savings (if there are any), borrowing (if a lender will lend) or selling stuff (if there is anything to sell). This process stops when those three sources are exhausted and towards the end borrowing will become increasingly expensive as lenders worry more about default.

At a national level it is more complex but essentially it’s the same process: sell assets, borrow or draw down on reserves. Borrowing from offshore has a sting in the tail. It causes a rise in the exchange rate, lowering earning capacity in the traded economy. A comparison of the exchange rate over the past decade is almost a mirror image of the current account position. This has destroyed returns to the traded sector.

The focus on Crown debt ignores the problem of our capacity to earn. Cutting Crown costs must be a constant battle for the Government, and it is necessary but it is not sufficient. The years between 2003 and 2007 saw large Budget surpluses for the Government, but they came at the cost of private sector firms, particularly in the traded sector. This is a great article on what happened during that period:

http://www.realeconomy.co.nz/235-neville_bennett_2006_how_reser.aspx

Unfortunately we look to be heading down the same path again.
 


tags: current account, credit rating, government deficit
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