date:2006-10-25T02:07:00
source:Embassy Wellington
origin:06WELLINGTON832
destination:VZCZCXYZ0009 PP RUEHWEB DE RUEHWL #0832/01 2980207 ZNY
CCCCC ZZH P 250207Z OCT 06 FM AMEMBASSY WELLINGTON TO RUEHC/SECSTATE
WASHDC PRIORITY 3411 INFO RUEHBY/AMEMBASSY CANBERRA PRIORITY 4576
RHHMUNA/CDR USPACOM HONOLULU HI PRIORITY RUEATRS/DEPT OF TREASURY
WASHDC PRIORITY RUCPDOC/USDOC WASHDC PRIORITY 0083

C O N F I D E N T I A L WELLINGTON 000832

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


Classified by DCM David J. Keegan. Reasons 1.4 (b) and (d).

1. (C) Summary: On his recent trip to New Zealand, U.S. Treasury
Under Secretary, Timothy Adams consulted with officials, private
economists, academics and business people to ascertain the current
state of the NZ economy. Consensus among experts was that NZ is
relatively stable and in the midst of a standard business cycle
downturn. Last year growth slowed to around 1.5 percent and is
projected to remain at this level for the near future. To ease
inflationary pressure, the Reserve Bank of New Zealand (Central Bank)
is expected to raise the official interest rate soon which will also
serve to keep the currency "overvalued." Consumer confidence will be
tested by fears of a burst in the housing bubble and dealing with
record personal debt. Officials plan to introduce a new "compulsory"
savings plan next year to help improve savings rate. Despite exports
growth being hampered by the high NZD, China has moved into third
position as a destination for Kiwi products. Even so, efforts to
conclude a timely free trade agreement with the Chinese are proving
difficult.

-----------------------------------------
Minister Cullen Predicts a Soft Landing
-----------------------------------------

2. (C) 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 make a soft landing while overall demand would
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 estimated a 7 billion
NZD budget surplus for 2005-06 dropping to 5.8 billion NZD in 2006-07
and bottoming out at 3.6 billion in 2008-09. Cullen said 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 of the Doha round would have a long-term
negative impact especially for NZ exports to the Asia-Pacific
markets. This was especially important since China was moving into
third place after Australia and the U.S. as a destination for NZ
exports.

3. (C) Cullen said that the NZD is currently overvalued by ten
percent (currently trading in the .66 to .68 range to the USD) which
is hurting 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. In the longer term, NZ
needs to find alternate sources for natural gas after depletion of
domestic reserves anticipated in 2009.

---------------------------------------
Mortgage Policy hinders Inflation Fight
---------------------------------------

4. (C) Governor of the Reserve Bank of New Zealand (RBNZ), Dr. Alan
Bollard, offered a similar assessment of the NZ economy. He said that
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. (C) Treasury Secretary, John Whitehead took a more technical cut
at the issue of soft landing noting that government efforts to
increase interest rates (currently at 7.25 percent) to correct
inflation will only lag because most home mortgages are set at fixed
rates, renegotiated every two to three years. 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 Cullen
and Bollard. Whitehead further stressed that greater export access to
the Asian markets and the viability of the WTO process was critical
for the health of the NZ economy. He admitted that the free trade
negotiations ongoing with China had 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. (C) Economists representing some of the major banks in Wellington
offered U/S Adams 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 predicted an announcement by the RBNZ, in a matter of
weeks, of a rate increase necessary to address this refinancing wave.

---------------------------------------------
Immigration helps Economy, but Politics hurts
---------------------------------------------

7. (C) A panel of academics challenged the conventional wisdom that
New Zealand was suffering a brain drain. They maintained that current
immigration policy which stresses skills through a 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, consecutive Labour governments have
undertaken a creeping re-regulation with absorption of talent away
from the private sector 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 adopted a
mixed-member proportional (MMP) system in 1996 to elect parliament --
resulting in more power shared by "marginal groups" thus slowing
further economic reforms -- because they were reacting negatively to
the pain of the economic restructuring in the 1980's.

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

8. (C) Business people from the agriculture, oil and gas,
financial/accounting, and business consulting sectors noted that, as
a relatively small economy, NZ must realize substantial increases in
labor productivity to sustain high rates of growth. This will require
much greater levels of exports and foreign investment. They worry
that only a small number of NZ companies are adequately engaged in
international markets because of NZ's small size and remoteness.
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.

9. (C) This cable has been cleared by U/S Adams' office.

McCormick