date:2006-10-18T23:31:00
source:Embassy Wellington
origin:06WELLINGTON820
destination:VZCZCXYZ0001 PP RUEHWEB DE RUEHWL #0820/01 2912331 ZNY
CCCCC ZZH P 182331Z OCT 06 FM AMEMBASSY WELLINGTON TO RUEHC/SECSTATE
WASHDC PRIORITY 3392 INFO RUEHBY/AMEMBASSY CANBERRA PRIORITY 4571
RHHMUNA/CDR USPACOM HONOLULU HI PRIORITY RUEATRS/DEPT OF TREASURY
WASHDC PRIORITY RUCPDOC/USDOC WASHDC PRIORITY 0081

C O N F I D E N T I A L WELLINGTON 000820

SIPDIS

SIPDIS
STATE PASS TO USTR, STATE FOR EAP/ANP, EB TREASURY FOR
LESLIE HULL

E.O. 12958: DECL: 10/18/2016
TAGS: ECON, EFIN, ETRD, PGOV, PREL, NZ
SUBJECT: VISIT OF U.S. TREASURY UNDER SECRETARY FOR
INTERNATIONAL AFFAIRS, TIMOTHY ADAMS


1. Summary: U.S. Treasury Under Secretary, Timothy Adams
consulted with New Zealand (NZ) government officials, private
bank economists, academics and business people in Wellington
on October 16 to ascertain the current state of the NZ
economy. Consensus among experts was that NZ is relatively
stabile and in the midst of a standard business cycle
downturn. Economic growth slowed to around 1.5 per cent last
year and is projected to remain at this level for the near
future. The Reserve Bank of New Zealand (RBNA - Central Bank)
is attempting to ensure the economy has a "soft landing" and
in order to ease inflationary pressure is expected to raise
the official interest rate in the next few weeks. The Kiwi
dollar (NZD) is considered relatively overvalued -estimated
to have appreciated by ten percent- but attempts by RBNZ to
curb inflation will also act to keep the currency
"overvalued." (Note: NZ has one of the highest interest rates
in the world. Endnote). NZ's household savings rate is
sharply negative and consumer debt at record highs. Consumers
will become more cautious as the housing market stalls due to
massive refinancing of mortgages (forty-eight billion NZD) at
higher interest rates. This phenomena is brought about by the
2-3 year length of the typical mortgage. To address low
household savings rate, officials alluded to a new
"compulsory" savings plan to be introduced next year. Export
sector's importance to economic recovery is also being
hampered by the high NZD. Experts stressed the need for the
WTO agenda to succeed. Trade within Asian markets, especially
China, has taken on far greater significance. China has moved
into third position as a destination for New Zealand exports.
Efforts to conclude a timely free trade agreement with the
Chinese are proving difficult.

---------------------------
Minister Cullen's Forecast
---------------------------

2. Under Secretary Adams' called on the Minister of
Finance and Deputy Prime Minister, Dr. Michael Cullen who
opined that New Zealand's economy was slowing after a period
of expansion but believed it would have a soft landing while
he expected overall demand to remain relatively strong. He
forecast economic growth to slow to 1.5 percent both this
year and next, before recovering to 3.7 percent in 2007-08.
Per budget predictions released in May, GNZ estimated a 7
billion NZD budget surplus for 2005-06 dropping to 5.8
billion NZD in 2006-07 and bottoming at 3.6 billion in
2008-09. His most significant concerns for the NZ economy
were low household savings rates/high consumer debt and weak
export performance. Cullen proffered that the GNZ planned to
introduce a new savings scheme next year with an op-out
mechanism to help improve savings rates. He was also worried
that a failure in Doha round would have a long-term negative
impact especially for NZ exports to the Asia-Pacific markets.
He admitted that China was playing an increasingly important
role and moving into third place after Australia and the U.S.
as a destination for NZ exports.

3. Cullen believed the NZD to be currently overvalued by ten
percent (currently trading in the .66 to .68 range to the
USD) which is having a negative effect on export performance.
He believes the housing market will remain stable because
net gains in immigration will help support demand. Inflation
worries have eased a bit as gas prices dropped as much as 15
percent in the past few months. More long range energy
concerns continue to focus on finding alternate sources for
natural gas after depletion of domestic reserves anticipated
in 2009.

---------------
Monetary Policy
---------------

4. In the meeting with the Governor of the Reserve Bank of
New Zealand (RBNZ), Dr. Alan Bollard, a similar assessment of
the NZ economy was offered. Per Bollard, current monetary
policy is trying to bring the economy to a soft landing but
with NZ having one of the highest interest rates in the world
further adjustments are only expected to have a small
marginal effect while continuing to keep the currency
overvalued. One of his biggest concerns is finding ways to
improve household savings rate. He felt that both corporate
and government savings were good but noted the increased
costs for government when an aging population begins drawing
down social security/pensions. He felt that current private
sector funding for pensions in NZ "doesn't look healthy."
This comment tracks with Cullen's reference to the new

savings scheme to address the low rate of household savings.

5. Treasury Secretary, John Whitehead also took up the issue
of a soft landing for the economy. His concern however was
that with current interest rates at 7.25 percent and average
mortgages fixed at two to three year terms, the economy will
experience a lag in the effects monetary policy will exert to
correct inflation. On the issue of pension reform, Whitehead
mentioned that the state system has moved the retirement age
from 60 to 65 resulting in more people remaining in the
workforce thereby easing some of the pressure on government's
need to increase expenditures on pensions. Whitehead's
assessment of savings rates among households, firms and
government echoed the opinions of Cullen and Bollard.
Whitehead further stressed the importance to the NZ economy
for greater export access to the Asian markets and the
viability of the WTO process. He admitted that the free trade
negotiations ongoing with China proved difficult but
reaffirmed the need to better integrate the NZ economy over
the next 10 years with the Asian markets.

-------------------------------
Housing Bubble Waiting to Burst
-------------------------------

6. Economists representing some of the major banks in
Wellington offered a somewhat pessimistic assessment of the
housing market and seemed certain that the bubble will burst
but can't forecast exactly when the downturn is likely to
occur. Because of the 2-3 year terms of the typical mortgages
in NZ, banks will begin to experience a 48 billion NZD
churning in the refinancing of these mortgages which will
certainly be set higher than the rates last set in 2004. They
predict an announcement by the RBNZ, in a matter of weeks, of
a rate increase necessary to address this refinancing wave.

--------------------------------------------- ---------------
Immigration Policy's Effect on Economy and Reform Rollbacks
--------------------------------------------- ---------------

7. A panel of academics dispelled the conventional wisdom
that New Zealand was suffering a brain drain. They maintain
that current immigration policy which stresses skills/point
system has resulted in NZ being in the net plus range for
population/talent gains. On the negative side they worried
that despite the free market reforms of the 1980's they saw
the effects of consecutive Labour governments resulting in
creeping re-regulation with absorption of talent and
increasing bureaucracy. They feared that NZ would slip on the
international index of competitive economies if this trend
continues. They theorized that the electorate may have
reacted negatively to the pain of the economic restructuring
in the 1980's by inaugurating in 1996 a mixed-member
proportional (MMP) system to elect parliament resulting in
more power shared by "marginal groups" thus slowing further
economic reforms.

-----------------------------
Need to Improve Productivity
-----------------------------

8. The business community group was represented by
individuals from the agriculture, oil and gas,
financial/accounting, and business consulting sectors. They
noted that as a relatively small economy, in order for NZ to
sustain high rates of growth, it will become increasingly
important to realize substantial increase in labor
productivity. This will require much greater levels of
exporting and foreign investment. They worry that only a
small number of NZ companies are adequately engaged in
international markets which is partially caused by the small
size and remoteness of the country. Increases in labor
productivity could lead to higher wages which could go far in
attracting and keeping talent in NZ. They remarked that it is
far easier to secure capital than it is to secure talent in
this market. Hope among this group is that political factions
will move away from in-fighting and focus more on improving
overall economic potential.
McCormick