Turning grasshoppers into ants

Tucked away in the Reserve Bank’s March monetary policy statement was a graph which should worry our grasshopper society. The future it paints might be the trigger that turns us back from borrowers to savers.

The graph showed average household wealth rising from 3.5 times household income in 2000 to 4.5 times in 2004.

That is ammunition for those who say household debt — at 1.3 times household incomes — is not a problem because assets have also been rising and for those who say there is not a retirement savings problem either because people are saving in their houses and can “eat” them when they get older by selling them and living off the proceeds.

But the future on the Reserve Bank’s graph is not a continuation of the past. By 2007 it projects wealth will be back to 3.8 times household incomes — quite a drop.

In itself, that mightn’t matter too much — if households had not been borrowing against their rise in “wealth”. On average households have been dissaving, spending more than they have been earning, in part because they have been under the impression they can do that and still get richer. The house market does the work.

But if the house market goes flat or into reverse, as the Reserve Bank’s graph implies, what then? If households go on spending more than they earn, their wealth will decline.

This has bothered David Skilling at the New Zealand Institute, for several reasons. One is that New Zealanders will find themselves short when they reach retirement. Another is that New Zealanders will less and less own their own country — with economic consequences and, as Winston Peters has already demonstrated from time to time, with political consequences, too.

Skilling is back on the case today with the fourth and last in his series of reports on savings, reported at length elsewhere in these pages, and proposing some very bold and expensive policy initiatives to get people to save. His reports have excited opposition in some quarters, which question his logic and his numbers. But they have also excited considerable interest at the apex of the cabinet.

From bete noire at the second Knowledge Wave conference Skilling has become a white knight to Helen Clark and Michael Cullen, who have, like him, become champions of the “ownership society”.

Clark and Cullen were at it again at the Labour party “congress” last weekend. Cullen dropped an adjective or two more about his intention in the Budget to introduce a version of the ultra-low-key Peter Harris plan for employees to save longterm through the tax system.

Clark and Cullen sense a political advantage in nudging and enabling small people to build up an asset base. Their reason: those people will feel more secure and so a more solid — and productive? — part of society.

But there is also a compelling macroeconomic case for saving and accumulating financial assets instead of running them down. And it is one Cullen takes seriously.

The cue is the balance of payments. For 35 years the current account has been in chronic deficit, sometimes by large amounts. Right now it is heading for a scarifying 8 per cent of GDP — and at a time of high export prices, when logically it should be low.

The surplus on trade, which used to be a comforting offset, has declined for a decade, is now in deficit and still heading south. We have become a net importer.

While we were a net exporter, the deficit — made up mainly by deficits on services and on the investment income account — didn’t matter overmuch because it could be rationalised as importing capital to develop the country, especially since we have to import most of our new technology. A developing country typically runs a deficit. The payoff is in stronger earnings later off the investment.

And we can take comfort that strong tourism is taking some of the place of exports. Moreover, at some point — maybe sooner than later — the kiwi dollar will drop and exports will do better and imports worse. In part, the deficit results from the kiwi dollar’s high jump which owes much to the United States dollar’s slide as a result of that country’s unbalanced fiscal and monetary settings (and its own version of the grasshopper society).

But after the kiwi falls the current account will still be in deficit. And that deficit represents a deficit in national savings. We pay a price for that, in a premium on interest rates, which is a cost on business and investment and so on development and so on households’ future incomes.

This macro issue bothers Cullen. In part his superannuation fund — a large government savings scheme — offsets households’ profligacy. They won’t save so he saves for them.

National’s John Key turns that round: if Cullen didn’t make it harder for households to save by pushing up their taxes year by year, they would find it less discouraging and/or difficult to save. Michael Cullen “can’t expect to take over $35 billion of additional taxes in the past five years and now wonder why private sector debt levels are rising”, Key said in a speech on Monday.

Fair enough. But tax cuts now would pour fuel on the consumer spending flames and Key didn’t say how he would get savings up.

What is needed is a behavioural shift.

A plunge in house prices and/or a thumping recession might do it by frightening today’s grasshoppers so much they metamorphose into ants.

But that is a hell of a way to get a behavioural shift. And for a policymaker it stacks up other problems. Japan is a warning: people stopped spending and the economy has been flat for a decade and a-half. Labour wouldn’t long survive such a phenomenon in government.

Cullen does have options, though. He has wide operational (even if not cash) fiscal leeway to nip a contraction in the bud: for one thing he could reverse his current constraints on infrastructure spending imposed to alleviate the labour shortage. The Reserve Bank likewise has plenty of monetary leeway and a mandate to use it in a recession.

Working those two levers might get us through to the point at which a lower kiwi dollar would boost export earnings and restart the engine.

But that would avail nothing, of course, if people just reverted to their dissavings habit. And other problems would linger, not least the lower interest foreign companies have than local ones in investing in new productive capacity in this small, distant economy.

Of course, none of this should be spoken about until after the election. Meantime, dissaving serves a higher purpose for Cullen: it keeps households in a golden grasshopper haze until election day.

Economics, you understand, is also politics.