A sobering tale for the end of summer

One test this lucky government has not had to face is lengthy economic slowdown, still less a recession. Might this be the year of that test?

Economists tell us this year will be slower than last but still right up with the 1990s average. Then, they say, growth will pick up again as the world lifts out of its current soft patch.

Michael Cullen even mused just before Christmas that the economy might just possibly have moved on to a higher trend growth track.

If he is right, that will be for one or both of two reasons: productivity of workers and/or capital is growing faster; and/or prices for our exports are on a permanently higher level compared with our imports.

A third possible reason might be that immigration is fuelling growth, as it did spectacularly in the mid-1990s. Migration-based growth doesn’t lift living standards, just overall activity which is then spread around among more people. If we are really on a higher growth plane, it will have to be for the other two reasons.

If Cullen is right, the political outlook for Labour is very rosy. Riding up a buoyant economy is a pleasant task for a government and promises it longevity.

But what if the world economy doesn’t lift quickly? What if something goes wrong?

The United States is awash in private debt. To this President George Bush is now adding a large government budget deficit.

Share prices have plunged. That has cut the value of large numbers of Americans’ retirement funds.

But house prices are strong, partly because Alan Greenspan cut interest rates to dangerously low levels to offset the share price collapse. So Americans haven’t felt much, if any, overall fall in wealth and may even feel better off. Certainly, they have gone on piling up debt — to around one and a-half times as much, relative to incomes, as people in this country.

Economists expect the retail binge will last until businesses start investing again and the economic cycle turns up. American businesses gorged on low interest rates and the dot.com madness in the 1990s. They over-invested. Since 2000 they have had a bad case of investment indigestion. Until they get over their indigestion — this year, it is hoped — the American economy is not going to lift.

But what if Americans stop buying houses before that happens? What if house prices then fall? What if Americans then start feeling queasy about their debt?

They would cut back spending, that’s what. Business profits, which depend on flush consumers and are already not good, would fall and the investment upturn would be postponed. Unemployment numbers would rise, so some would have a lot less to spend and others might become nervous.

If all that happened, a nasty downward spiral could set in, as in Japan which has been stagnant for a decade. A downward spiral of that sort could delay, maybe for quite a long time, the American recovery on which the world and we depend.

That would hit us in these ways:

* directly, because we could sell less to Americans, not just because they buy less but also because their dollar would fall and Americans could afford less of other countries’ products — and foreign investors might shy away, forcing up interest rates;

* indirectly, because other countries could also sell less to America, so we could sell less to them; this would be especially problematic for exports to Asia and Australia;

* indirectly, through retrenchments by foreign-owned companies trying to adjust to a lower growth track by winding back operations in peripheral countries — and you don’t get much more peripheral than New Zealand;

* then secondarily because highly indebted consumers in this country might also take fright and cut spending to get their balance sheets in order;

* then by repeats as contractions in other countries impact back on the United States.

Now stir in the threatened war in Iraq. Even if that went swimmingly and fast and the Americans got out quickly, there would be large budgetary cost.

But what if the American forces got bogged down trying to get order in an unfamiliar, badly damaged and unruly place? The cost could skyrocket and that would compound internal economic difficulties. One reputable outer-edge estimate is $US1.6 trillion.

That would have a huge negative impact on the American economy.

And what if war in Iraq precipitated revolution in Saudi Arabia, where the ruling caste has squandered decades of oil earnings and islamic fundamentalists are highly influential? That could have a very serious impact on oil availability and prices.

Where would Cullen be then? Certainly not basking in higher-than-expected tax revenues and amid a moderately contented populace. Life for ordinary folk would get fraught and so would life in the Beehive.

The good news is that economists are almost unanimous that this won’t happen. The bad news is that economists seldom pick turning points, for good or ill.

So it’s your call. When you get back to work. At least for now you have work to go back to.