Over the last year most economic forecasts of NZ have had to take on a more bearish tone, as the evidence for economic recovery has faltered. For those without a rationale for the more pessimistic outlook, references to a “lack of confidence” and “business pessimism are sufficient explanation for the dreadfully slow response of the production sector to the harsh macro and microeconomic changes that Rogernomics has wrought. A more plausible explanation though can be found by accepting that the policy formula was halted midstream in late 1987, and at that time its chances of success evaporated.
Specifically, the refusal of the present government to remove institutional impediments that allow the prices of labour and capital to adjust (downwards) to levels that would permit business to compete under the so-called “level playing field” conditions that deregulation of the goods market has brought, means an inordinate reliance by the policymakers on productivity improvements to deliver sufficient improved competitiveness to generate growth.
The liberalisation of border protection, and the commitment to price stability was always going to have two effects upon domestic producers. They were likely to lose market share in the domestic market, but the competition was likely to force them to introduce cost and productivity improvements in order to achieve competitiveness under the new “level playing field” conditions.
From a forecasting perspective, the issue has been how long it would be before the cost and productivity improvements would be sufficient to offset the onslaught of greater imports. There is undisputed evidence that productivity improvements have occurred so that the gap between our productivity level and that of the new entrants to our market has closed- but of course it needs to. The new competitors don’t just have enviable productivity performance that we have to match, they also pay approximately the lowest prices in the world for their inputs (given imports from anywhere now have greater access).
The evidence so far, in terms of growth rates being achieved is that NZ producers are not securing enough from improved productivity to offset the prices they have to pay for labour and capital compared to the new competition. Here, NZ policymakers have failed.
In this context the naivety of the recent Reserve Bank economic forecasts is outstanding. In the face of continued lacklustre growth and indications that more industry layoffs are to come, they produce a picture that has growth of 2% this year and then 3%, rising from 0% last year- the quickest turnaround they have produced. But their picture is one that has inflation lifting from 4% over 1988/89 to 4.6% over 1990/9 1. We have been forecasting an inevitable tightening of monetary policy for 6 months, albeit knowing that because of insufficient deregulation continued disinflation will simply prolong recession.
In the end the decision will be made by the politicians. Having already rejected the option of deregulating sufficiently to facilitate falls in labour and capital prices, the political system is not far away now from endorsing the U-turn on disinflation.