Economic outlook and the savings challenge

This morning I would like to give you a quick snapshot of the economy; in particular, an overview of the main economic challenges New Zealand faces and the steps the government is taking to deal with them.

Speech notes from Dr Michael Cullen’s Westport breakfast

The economy grew by 0.8% in the last three months of last year, giving annual growth for the year of 1.5%. Here on the West Coast annual growth of 3.1% was the second highest in the country (National Bank Regional Trends, Feb 07).

The overall growth rate is not high, but for the bottom of the economic cycle it is a significantly improved performance compared to our experiences in recent decades. A year ago some alarmists were warning of a recession.

What we are seeing is an economy with considerable underlying strength:

  • Since 2000 economic activity has increased by a quarter.
  • Over the economic cycle we have been growing faster than the average of developed countries.
  • We have come a long way towards building a stronger, fairer economy.
  • More Kiwis than ever before – 2.1 million of us – are in jobs and our unemployment rate is the lowest in a generation.
  • Last week unemployment benefit numbers fell to 28,845, 82% down from 1999, Maori unemployment fell below 10,000 (9902)
  • Our public finances are sound and counting the New Zealand Superannuation Fund we no longer carry any net debt at all.
  • Our business sector has particularly prospered. Profit growth has averaged over twenty% a year in recent years. And that’s been good for business investment.

Looking at the year ahead: a strong labour market and house price increases will continue to underpin domestic demand.

However, the strength returning to the domestic economy is the reason the Reserve Bank increased interest rates when it last set the official cash rate.

World commodity prices are strong, helping the dairy sector in particular, which will also fuel demand in some regions.

But there are stern challenges for the export sector from the persisting high dollar.

Current account figures published at the end of March show we spent $14.4 billion more than we earned in 2006. That is a deficit of nine% of our GDP.

Though the deficit was down slightly on a year ago, there is little room to be complacent. In the last quarter of last year our exports fell by 2.7% and imports rose 1.4%.

That tells us in fairly stark terms that our growth is still excessively dominated by domestic demand. Exports as a% of GDP have barely moved in the last thirty years despite all the economic reforms.

Another way of looking at it is that the large deficit underlines our excessive reliance on foreign savings to finance consumption and investment in New Zealand.

If we save more domestically, we are less reliant on foreigners to finance consumption and business expansion here. Foreigners end up owning fewer of our assets and we become less vulnerable to rising interest rates if international sentiment towards New Zealand changes.

In a nutshell we are neither saving enough nor exporting enough.

We must do much better at producing the high value products the rest of the world wants to buy.

The government is working with industry in a variety of ways:

  • Export Year 07 is a joint government – business initiative. Aimed at building the foundations for export growth – it is not aimed at creating a sudden surge in exports in one year.
  • New Zealand Trade & Enterprise is working with our fastest growing sectors and industries to increase our global connections.
  • Harnessing greater research and development and upskilling the workforce are key.
  • We have taken great strides to resuscitate skills training with the Modern Apprenticeship Scheme and industry training programmes.
  • The government is also working through the Business Tax Review on other measures that will improve productivity and competitiveness. The Budget on 17 May will reveal our decisions on that.
  • Treasury and Reserve Bank are looking at ways of supplementing monetary policy instruments to ease pressure on interest rates/dollar

Lifting the level of our household savings is also vital.

Increasing our national savings is good for families, good for businesses, good for the economy. It helps secure our retirement dreams and our future prosperity.

The government has led by example, significantly increasing the level of public sector savings in recent years. Taking into account the NZ Superannuation Fund, the government itself no longer has any net debt at all.

But our household savings record remains very poor by international comparison.

Statistics New Zealand figures show that last year the typical New Zealand household spent $1.15 for every dollar earned.

And our savings record might be getting worse, not better.

Take the single example of credit cards. Reserve Bank figures show we owed nearly $4.6 billion dollars on our credit cards in January. Two years ago we owed less than four billion. The credit card debt has increased by over half a billion dollars in just two years. That’s despite an average interest rate of 18.6% on three billion dollars of the debt.

That is an awful lot of debt on short-term, high interest rates. And bear in mind servicing debt is costly. It is forgoing money that could be saved.

We have an appetite for debt when we should be hungry for savings.

Savings build the wealth of New Zealanders and help build the pool of assets needed for business investment.

If we want to make sure we own more of our own businesses, we need to save more. If we want to have a better standard of living in retirement than NZ Superannuation alone, we need to save more.

If we want to have deeper capital markets that provide the oil for a well-functioning business sector, we need to save more.

If we save more the current account deficit will shrink because we will import relatively less to consume. We will rely less on foreign savings to finance our lifestyle and therefore we pay less by way of interest and dividends to overseas investors.

If we can increase our savings we will reduce inflationary pressure in the economy, and take pressure off interest rates. Lower interest rates in turn helps to take pressure off the dollar, helping to increase our exports and reduce imports.

So increasing the level of household savings is a priority for the health of our businesses.

It’s also a priority for the long-term health of households – and particularly for families on low and middle incomes.

The 2001 Household Savings Survey showed that only fifteen% of individuals and seventeen% of couples in the $15 – $50,000 income bracket had superannuation assets.

We are seeing a wide and increasing gap between a few households who have enough to provide for their retirement – and the rest. Statistics New Zealand recently released figures showing the top ten% of us own half of all New Zealand’s wealth. The bottom fifty% own just five% of our wealth.

The divide has a real effect on our future. For one thing, we want a consensus about the direction of economic growth, and we won’t get that consensus if half the country feels it’s not getting a fair share.

Inequality on this scale is not inevitable; it is the result of policy choices. We can do something about it. Working for Families is part of a package of solutions this government is introducing to reduce inequalities.

Increasing the level of household savings will make a substantial difference. It will particularly make a difference in retirement where inequalities in lifetime earnings have the greatest visible effect on the standard of living New Zealanders enjoy.

Those low and middle income families with no financial assets – that, is most of them – know they need to save if they are to have something to look forward to in their retirement.

They are paying off a home, which is a good thing. Owning our own home gives us a sense of security and a stake in our community, as well as security in retirement.

But for most householders the family home won’t be enough to enjoy a standard of living in retirement comparable to that during your working life. You can’t eat your home.

A Treasury study released in March showed you probably still need some financial assets for your retirement as well.

Yet three quarters of household wealth is tied up in housing and less than ten% in life, superannuation and managed funds. Household net assets have tripled since 1990, while the household saving rate has been decreasing.

When Treasury looked at this situation its conclusion was clear: Your house should not be relied upon to replace other saving. The report finds that the effect of selling down your house is “modest; it is only noticeable when households halve the size of their home.”

Equity withdrawals once retired “should not be viewed as a substitute for adequate levels of retirement saving.”

Help is coming on 1 July with KiwiSaver.

KiwiSaver aims to make it easy for people to start taking care of tomorrow, today. It makes it especially easy for young people starting out in the workforce.

It’s a simple, voluntary workplace-based savings scheme. The beauty of its design is that it deals with the inertia we all face in making decisions that won’t bear fruit for many decades. We put it off because of more pressing issues on our plates. Automatic enrolment for everyone starting a job is the key feature.

Seven hundred thousand people start a new job each year and they will be automatically enrolled with the option to opt out after two to eight weeks.

We all know that the younger a person starts saving the quicker benefits multiply over a lifetime. So we’ve made the incentives very strong for young people to join as they start out in the workforce.

To kickstart the scheme, everyone who signs up will immediately receive a $1000 up-front, locked in, contribution from the government.

I am quietly confident that the take-up rate will be strong. I sense a real turning point in this debate.

I expect more than half the workforce to be KiwiSavers after ten years and that’s partly because I believe more and more employers will see real value in workplace schemes.

By making employer contributions tax exempt we are making it even more attractive for employers to help workers save. Their balances will grow much quicker with a helping hand from the boss. The exemption effectively gives employers more choices when it comes to remunerating workers. That should help to retain staff and attract new talent.

I am very pleased that a number of forward-looking businesses have indicated they will be making contributions right from the start date. Fletcher Building is among them.

Also most pleasing, just across the road from me in Wellington – the Reserve Bank, the very institution that worries about excessive consumption is embracing KiwiSaver. It’s leading by example having just reached a deal with the staff union, Finsec for a two% contribution a year for members who opt into KiwiSaver.

The Reserve Bank operates in a highly competitive market for skilled labour so I am sure that this is partly the motivation for giving people another reason to join and stay with the bank.

Over time I believe KiwiSaver will become a powerful tool for many businesses to attract and retain skilled staff. We have to do better at nurturing and retaining our skilled workers. I believe KiwiSaver in particular will help smaller businesses that might otherwise find it too expensive to introduce their own workplace savings scheme.

In summary I am confident KiwiSaver will make a real difference to the ability of many to look forward to a retirement that meets their dreams.

Savings makes households more secure by diversifying household balance sheets beyond simply their home. That helps to protect against vulnerability to a decline in house prices, and it provides an asset families can better use in their retirement.

And KiwiSaver will be very positive for businesses. Savings deepen our capital markets. A deeper stock market and corporate debt market lifts business growth and productivity. It takes the pressure off our balance of payments, interest rates and the dollar.

We are reminded of this every time an Australian private equity firm crosses the Tasman to invest in our companies. They have the cash because of active policies in Australia encouraging saving for some decades.

Consider this: the Australian economy is five times the size of ours, yet some trillion dollars are now under management there, compared to just 64 billion dollars here.

So in summary KiwiSaver will help secure our futures and build a stronger economy and fairer society.

I firmly believe that the preparations we are making today will not only help this generation look with more confidence to the future, but so will the generations to come.