New Zealand
Selected Issues
Author: International Monetary Fund
Publication Date:
19 May 2008
eISBN:
9781451973877
Language:
English
Keywords:
ISCR; CR; good; goods; GDP; goods production; price; N.Z. dollar exchange rate; New Zealand dollar; soft landing; GDP improvement; deficit in New Zealand; Exchange rates; Current account deficits; Current account; Global
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This paper assesses the impact of a disruption to capital inflows by examining past episodes of capital inflows in New Zealand and other countries. It also reviews the IMF’s Global Economy Model (GEM), which is used to provide some estimates of the equilibrium relationship between New Zealand’s real effective exchange rate and real commodity prices. The analysis also suggests that permanent changes in non-energy commodity prices can have a significant impact on New Zealand’s equilibrium exchange rate.

Abstract

This paper assesses the impact of a disruption to capital inflows by examining past episodes of capital inflows in New Zealand and other countries. It also reviews the IMF’s Global Economy Model (GEM), which is used to provide some estimates of the equilibrium relationship between New Zealand’s real effective exchange rate and real commodity prices. The analysis also suggests that permanent changes in non-energy commodity prices can have a significant impact on New Zealand’s equilibrium exchange rate.

I. Assessing the Impact of a Disruption to Capital Inflows on New Zealand1

1. Large capital inflows have funded New Zealand’s current account deficits in recent years, raising concerns about how a disruption to inflows would impact the economy. This chapter looks at the impact of a disruption to capital inflows by examining past episodes of capital inflows in New Zealand and other countries. The analysis suggests that a disruption to capital flows would likely slow GDP growth but that the risk of a hard landing is limited given New Zealand’s sound monetary and fiscal frameworks and the strength of the banking system. Nonetheless, the rollover risk associated with banks’ short-term offshore funding remains a vulnerability, which could be addressed over time by new liquidity guidelines for banks being considered by the authorities.

A. The Nature of Capital Inflows and Associated Vulnerabilities

2. New Zealand’s net capital inflows have averaged almost 5 percent of GDP per year over the past fifteen years, with particularly strong inflows in the mid-1990s and since 2004. From 2004 to 2007, net capital inflows averaged more than 7 percent of GDP, primarily because of a pickup in gross inflows (Figure I.1a). In recent years, net capital inflows have exceeded the previous peaks in the mid-1990s and pushed net foreign liabilities to almost 90 percent of GDP, one of the highest levels among advanced economies (Figure I.1b).

Figure I.1a.
Figure I.1a.

New Zealand: Capital Flows

(March year, as percent of GDP)

Citation: IMF Staff Country Reports 2008, 164; 10.5089/9781451973877.002.A001

Sources: Statistics New Zealand; and Fund staff calculations.
Figure I.1b.
Figure I.1b.

Net Foreign Liabilities

(2006, as Percent of GDP)

Citation: IMF Staff Country Reports 2008, 164; 10.5089/9781451973877.002.A001

3. Net capital inflows have been dominated by private flows since 2004, primarily channeled through banks. Equity inflows were sizable in 2001-02 but have fallen since then, while bank borrowing has increased significantly (Figure I.2). As a result, gross debt rose to 120 percent of GDP in 2007, of which almost two-thirds was bank debt (Table I.1).

Table I.1.

New Zealand: Decomposition of Gross External Debt 1/

article image
Sources: Statistics New Zealand; and Fund staff estimates.

Based on the International Investment Position (December quarter) comprising all official organizations known to have external debt, and corporates with external debt greater than $NZ 50 million.

Figure I.2a.
Figure I.2a.

New Zealand: Net Capital Inflows

(Four quarter running total, as percent of GDP)

Citation: IMF Staff Country Reports 2008, 164; 10.5089/9781451973877.002.A001

Figure I.2b.
Figure I.2b.

New Zealand: Net Foreign Liabilities

(As percent of GDP)

Citation: IMF Staff Country Reports 2008, 164; 10.5089/9781451973877.002.A001

Figure I.2c.
Figure I.2c.

New Zealand Bank Borrowing Offshore

(Amount outstanding, as percent of GDP)

Citation: IMF Staff Country Reports 2008, 164; 10.5089/9781451973877.002.A001

Figure I.2d.
Figure I.2d.

New Zealand: Bank’s Share of Funding from non-residents

Citation: IMF Staff Country Reports 2008, 164; 10.5089/9781451973877.002.A001

Sources: Statistics New Zealand; and Fund staff calculations.

4. New Zealand banks have increased foreign borrowing to help fund mortgage lending. Funding from nonresidents comprised one-third of banks’ total funding in 2007, well above the levels in the mid-1990s when foreign borrowing comprised one-fifth of banks’ liabilities. The increase in foreign borrowing was facilitated by the development of the Eurokiwi and Uridashi markets that enabled retail borrowers in Europe and Japan to gain exposure to relatively high-yielding New Zealand dollar denominated securities (Edison, 2007). The development of these markets, together with growth in the foreign exchange swap market, enabled New Zealand banks to hedge foreign currency borrowing that was readily available offshore given abundant international liquidity. In turn, the increase in foreign borrowing helped finance a housing boom in New Zealand in the past 4–5 years.

5. The large scale of foreign borrowing and its short-term nature leaves New Zealand vulnerable to an adverse shift in investor sentiment. Two-thirds of banks’ funding from nonresidents matures in less than a year, with almost ½ maturing within 90 days (equivalent to 30 percent of GDP).2 Given that most of the borrowing is undertaken through a relatively small number of banks that are able to tap the international market, the ability to roll over the funding is linked to their financial health and the financial health of their parents, mostly domiciled in Australia (Woolford, Reddell and Comber, 2002). New Zealand banks have performed well in recent years, with strong profit growth and low nonperforming loans (Table I.2). Going forward, the quality of their mortgage book (at 45 percent of assets) will have a strong bearing on banks’ credit rating and their ability to roll over offshore funding.

Table I.2.

New Zealand: Financial Soundness Indicators of the Banking Sector

article image
Source: RBNZ.

Data for end-June.

Tier I capital includes issued and fully paid common equity and perpetual non-cumulative preference shares, and disclosed reserves.

For systemically important banks.

6. Factors that mitigate some of the risks of banks’ borrowing offshore include the widespread hedging against currency movements and the availability of credit from parent banks offshore. A large portion of the debt is denominated in New Zealand dollars, with this share rising from about 40 percent of total debt in 2000 to more than 50 percent in 2007 (Figure I.3b). For the remaining foreign currency debt, survey data for 2007 show that banks hedged 97 percent of such debt using financial derivatives. Moreover, three quarters of non-bank foreign currency debt was hedged either naturally or through derivatives. A further factor that may limit the rollover risk is that parent banks are unlikely to curtail credit sharply in the event of difficulties with their New Zealand subsidiaries, unless they also face funding difficulties. At present, about 40 percent of banks’ foreign debt is from associates offshore, but the share of funding from parent banks is unclear (most of the funding from associates is from special funding vehicles set up by New Zealand banks for tax purposes).

Fig I.3a.
Fig I.3a.

New Zealand Debt by Residual Maturity

(Bank and Non-Bank Debt, as percent of Total Debt)

Citation: IMF Staff Country Reports 2008, 164; 10.5089/9781451973877.002.A001

Sources: Statistics New Zealand; and Fund staff calculations.
Figure I.3b.
Figure I.3b.

New Zealand: Local Currency External Debt as share of Total External Debt

Citation: IMF Staff Country Reports 2008, 164; 10.5089/9781451973877.002.A001

Sources: Statistics New Zealand; and Fund staff calculations.

B. Experience with Capital Inflows in Other Countries

7. Episodes of large capital inflows in other advanced economies were associated with a pick up in economic activity and subsequent slowing when inflows eased. The October 2007 World Economic Outlook (IMF, 2007) examines 109 episodes of large capital inflows in 50 countries, including three episodes in New Zealand (1992, 1995–97, and 2000) and 12 in other advanced countries.3 Capital inflows in the advanced countries were associated with an increase in real GDP growth, domestic demand, current account deficits and CPI inflation (Table I.3). But as inflows slowed, GDP growth fell by almost 2 percentage points, and for the next two years was ¾ percentage points below the growth rate before the episodes began.

Table I.3.

Large Capital Inflow Episodes in Advanced Countries, Selected Macro Economic and Policy Indicators 1/

article image
Sources: WEO October 2007, Chapter 3: Managing Large Capital Inflows; and Fund staff calculations.

Values reported are medians for the country groupings. “Before” denotes values in the two years before the episodes. “After” denotes values in the two years after the episode.

Excluding New Zealand.

Cumulative change within periods.

8. The WEO study, however, does not determine that a slowing in capital inflows causes a fall in GDP growth and a narrowing of the current account deficit. Capital inflows may be driven by an upswing in the domestic economic cycle that increases the current account deficit which in turn requires funding by capital inflows. This implies that domestic demand, the current account deficit and capital inflows would fall as the domestic cycle cools. Debelle and Galati (2005) argue along these lines, providing evidence that current account reversals in industrial countries mostly reflect domestic economic cycles rather than shortfalls in net capital inflows driven by a loss in external confidence. Nonetheless, the results of the WEO study for advanced countries are similar to those for emerging market countries, where shortfalls in capital inflows were in many cases driven by a loss in external confidence.

9. Capital inflow episodes characterized by weaker post-inflow GDP growth in advanced countries were associated with a faster acceleration in domestic demand, a sharper rise in inflation and a real exchange rate appreciation during the episodes (Figure I.4). These episodes lasted longer and involved higher cumulative inflows. GDP growth in the weaker cases fell by 2 percentage points in the two years following the capital inflows episode compared with GDP growth during the episode.

Figure I.4.
Figure I.4.

Advanced Economies: Post Inflow GDP, Selected Macroeconomic Variables, and Policy Indicators 1/

Citation: IMF Staff Country Reports 2008, 164; 10.5089/9781451973877.002.A001

Sources: WEO October 2007; and Fund staff calculations1/ Values reported are medians for the two groups of episodes.2/ Average growth in the two years after the episode minus average during episode.3/ Average during episode minus average in two years before episode.4/ Average in two years after episode minus average during episode.5/ Average during espisode.6/ Cumulative change.7/ Average deviations from trend of real government expenditures (excluding interest) during the episode, minus average in the two years before the episode. The trend component is obtained from a Hodrick-Pestcott filter.

10. From the policy perspective, it is notable that harder landings were associated with strong increases in government spending during the capital inflow episodes in advanced economies. An increase in real government spending during episodes were associated with a larger increase in domestic demand and inflationary pressures, and subsequently a sharper fall in domestic demand and GDP after capital inflows slow.4 The policy message is that maintaining fiscal discipline in the face of buoyant revenues, rather than allowing procyclical growth of public spending, may help ensure a soft landing when capital inflows slow.

C. How Does New Zealand’s Experience with Capital Inflows Differ from Other Countries?

11. Capital inflow episodes in New Zealand were associated with a smaller change in GDP growth than in other countries. Real GDP growth fell by 1½ percentage points after the 1995-97 episode (with only a shallow recession in 1998 despite a serious drought), but the fall was smaller than the 2 percentage point fall in advanced countries. With the 2000 episode, real GDP growth actually rose slightly in New Zealand. The more muted changes in growth in New Zealand may be because swings in capital inflows were smaller than in other advanced countries. Capital inflows in advanced country episodes typically increased by 7 percent of GDP and fell by 5 percent of GDP after the episodes, about twice the variation experienced in New Zealand.

12. The post-inflow adjustment of the current account was markedly different in the two capital inflow episodes in New Zealand. After the 1995–97 episode, the current account adjustment was relatively small (0.6 percent of GDP) and took place mainly through the income deficit, driven by a sharp fall in domestic interest rates that lowered the funding cost of New Zealand dollar-denominated external debt. Following the second episode in 2000, the trade balance was the source of the 1¾ percent of GDP current account adjustment, due to an improvement in the terms of trade and a fall in the real effective exchange rate.

13. Movements in the exchange rate in New Zealand were more marked than in other countries. The real exchange rate appreciated by 15 percent during the 1995–97 episode, well in excess of that experienced during capital inflow episodes in other countries. Moreover, New Zealand’s exchange rate depreciated after the 1995–97 episode came to an end, and continued to depreciate throughout the 2000 episode and beyond. In part, this reflected a decrease in the supply of capital as the Asian financial crisis in 1997-98 affected capital flows globally (WEO, 2007). The depreciation of the exchange rate also reflected a slowing in New Zealand’s domestic demand and an easing in non-tradable goods inflation, which allowed a reduction in short-term interest rates.

14. The fall in the exchange rate and swings in capital inflows in New Zealand had little impact on banks. The exchange rate fell by 25 percent in real effective terms from the peak in 1997 to 2001, but banks’ nonperforming assets remained low and bank profit was largely unaffected. This was due to the short-lived nature of the recession in 1998 and the widespread hedging of foreign currency denominated debt, not only by banks but by their corporate clients.

D. How Does the Current Episode of Capital Inflows Differ from Earlier Episodes?

15. The current episode of capital inflows is larger and longer lasting than earlier episodes in New Zealand, which increases the vulnerabilities. Capital inflows have financed current account deficits that have averaged almost 8 percent of GDP per annum for the past four years, more than 2 percentage points of GDP larger than during the mid-1990s. Moreover, the current episode so far has lasted one year longer than the mid-1990s episode.

16. The current episode in New Zealand is similar to that experienced by countries that had weak post-inflow growth outcomes. GDP growth, domestic demand and inflation, and real government expenditure growth are about the same as in other advanced countries that experienced weak post-inflow growth outcomes (Figure I.5). What is notable is that the current account deficit in New Zealand has been larger than in other countries, and large deficits were associated with weaker outcomes in other countries. In other countries with weak post-inflow GDP growth, capital inflows fell by 4 percent of GDP in the two years following the episodes and were associated with a fall in domestic demand growth by 4 percentage points and GDP growth by 2 percent percentage points over the following two years.

Figure I.5.
Figure I.5.

New Zealand’s Current Capital Inflow Episode Compared with Advanced Countries with Weak Post-Flow GDP Growth 1/

Citation: IMF Staff Country Reports 2008, 164; 10.5089/9781451973877.002.A001

Sources: WEO October 2007; and Fund staff calculations.1/ Values for advanced countries are medians for Austalia 1988-90, Denmark 1999, Iceland 1996-2000, New Zealand 1995-97, and Sweden 1988-90 and 1998-2000.2/ Average during espisode.3/ Cumulative change during episode.4/ Average deviations from trend of real government expenditures (excluding interest) during the episode, minus average in the two years before the episode. The trend component is obtained from a Hodrick-Pestcott filter.

E. How Might a Disruption to Capital Inflows Play Out in New Zealand?

17. New Zealand’s large current account deficit will need to adjust to a lower level to reduce external vulnerabilities. A soft landing scenario would see the current account deficit falling over time as domestic demand eases and the real exchange rate depreciates. A depreciation is likely to occur in response to a decline in capital inflows as the RBNZ reduces interest rates to a more neutral setting when inflation pressures abate. Staff analysis suggests a norm for the current account deficit in the range of 4–5 percent of GDP, implying an adjustment of 3-4 percent of GDP from present levels (Brooks, Edison, and Vitek, 2008).

18. The adjustment in the current account, however, may not be smooth if capital inflows are disrupted. The recent global financial market turmoil provides some insight into how a disruption to capital inflows may play out. While New Zealand banks have managed to maintain adequate access to offshore money markets in the face of the global turmoil, they did face a higher cost of funding which raised domestic short-term interest rates by around 25–50 basis points and five-year credit default swap spreads by almost 100 basis points by early April 2008.5 As investors’ appetite for risk shifted and some “carry trades” were unwound, the U.S./N.Z. dollar exchange rate depreciated by 13 percent from late July 2007 through end August 2007. The exchange rate has since appreciated to near the mid-2007 peaks but the shifts in funding costs and the exchange rate are indicative of the impact on the financial markets of a future disruption to capital inflows. Future disruptions could take the form of a global credit squeeze as seen recently, or could be a more specific loss of investor confidence in New Zealand.

19. A depreciation of the real exchange rate, if sustained, would improve the external trade balance and reduce the need for capital inflows. A depreciation of the exchange rate would be welcomed by the tradable goods sector given that Fund staff analysis suggests the exchange rate was overvalued at end-2007 by 5–15 percent (Brooks, Edison, and Vitek, 2008).

20. The scale of the depreciation would depend on the extent of disruption to capital inflows. A loss of market access to foreign funding for several months may present a challenge, as two-thirds of short-term debt falls due within 90 days (i.e., bank and non-bank debt equivalent to 46 percent of GDP). Foreign exchange reserves of 12 percent of GDP would provide some buffer for the foreign currency denominated share of short-term debt under this scenario.

21. A complete loss of access to foreign funding, however, is unlikely given the good credit rating of New Zealand banks. The banks’ credit rating (AA/Aa2 for the big four banks) is backed by New Zealand’s strong fiscal position, its sound monetary policy framework, and flexible exchange rate and labor market. Moreover, New Zealand’s largest banks are owned by Australian banks, which provides an alternative line of credit, as long as Australian banks are not adversely affected by a similar shock.

22. Where banks may be vulnerable is if the quality of their mortgage book declines sharply and this in turn harms their credit rating and increases their cost of funding. The concentration of loans in mortgages (45 percent of bank assets) exposes banks to a fall in house prices and a reduction in households’ ability to service debt that may accompany an economic slowdown and a rise in bank funding costs. Stress tests in the Financial System Stability Assessment (FSSA) that combined a 20 percent fall in house prices, a 4 percent increase in the unemployment rate and a 4 percentage point decline in household income, shows a loss of ¼ of annual bank profits on average, and at most half of annual bank profits in the case of the most affected banks (IMF, 2004). In addition, the FSSA stress tests show that banks would suffer significant losses from a sharp rise in funding costs, but the results show that no individual bank’s capital position would be endangered by the scenario.6 Preliminary updates of these stress tests by the RBNZ suggest the results remain valid (Rozhkov, 2007). The resilience of banks’ capital to stress tests suggest that more extreme shocks to house prices, unemployment, household incomes and funding costs than in the FSSA stress test scenarios would be needed to prompt a downgrade in bank’s credit rating.

23. A sharp cooling in the housing market may contribute to an adjustment in the current account deficit, through increased household saving and a reduction in residential investment. A drop in house prices would have negative wealth effects on consumption, as would a decrease in the availability of home equity financing. In the past, private saving and investment have adjusted to a fall in capital inflows. In 2001–03, following the 2000 capital inflow episode, half the 2½ percentage point of GDP improvement in national saving came from the private sector.

24. Higher funding costs would worsen the current account deficit and offset some of the impact of a cooling in the housing market. For instance, a 100 basis point increase in the cost of funding of external debt could worsen the income deficit by 0.7 percent of GDP in the short-term.7 This would imply a somewhat larger adjustment in the trade balance would be needed to reduce the current account deficit in face of lower capital inflows and higher cost of existing debt.

F. What Policy Action Might Reduce Vulnerabilities Ahead of a Disruption to Capital Inflows?

25. The current mix of macroeconomic policies that focus on addressing inflationary pressures will help reduce capital inflows over time. If the adjustment in the current account takes place in line with the soft landing scenario discussed above, foreign liabilities would fall over time as a share of GDP, reducing external vulnerabilities. To illustrate, a current account deficit of 4 percent of GDP (the lower end of staff estimates of the norm) would reduce net foreign liabilities to 80 percent of GDP over the medium-term from the nearly 90 percent of GDP in 2007 (Brooks, Edison, and Vitek, 2008).

26. The experience of other countries suggests that fiscal restraint during episodes of high capital inflows was associated with a soft landing. This would imply the need for fiscal restraint in New Zealand during the current capital inflows episode, in order to take pressure off monetary policy.

27. Lessons from the recent global financial market turmoil point to the need for central banks to think ahead about their strategy for dealing with exceptional disruptions to liquidity. The RBNZ broadened the range of collateral in response to the turmoil in August 2007 by allowing banks to use a wider range of instruments in the overnight reverse repurchase facility. The RBNZ may want to consider ahead of time what further steps could be taken to increase liquidity, if disruptions arise.

28. The introduction of liquidity guidelines for banks planned by the RBNZ should help reduce vulnerabilities. The IMF’s Global Financial Stability Report (April 2008) argues that the apparent under-insurance of large banks to the risk of liquidity shocks suggests the need to consider stricter prudential norms (Box I.1). Given the relatively low level of liquid assets that New Zealand banks hold (only 3-4 percent of assets were in cash and government securities in 2007), the introduction of liquidity guidelines has the potential to reduce liquidity stress that may arise from a disruption of access to offshore money markets.8

29. In addition, the RBNZ, as the main supervisor of financial institutions, will need to guard against declining credit standards. Maintaining access to foreign funding depends crucially on the good credit rating of New Zealand banks. Therefore, the supervisor should guard against a deterioration in banks’ lending standards, especially for their mortgage book, as this may undermine their credit rating.

G. What Would be the Appropriate Policy Response to a Disruption to Capital Flows?

30. The appropriate monetary policy response to a disruption in capital inflows would depend on the medium-term inflation outlook under the RBNZ’s inflation targeting framework. A temporary disruption to capital inflows that raises demand for liquidity should be accommodated through RBNZ action to increase the supply of liquidity. A more fundamental challenge for the inflation-targeting framework would be a sharp depreciation of the exchange rate and an increase in funding costs along the entire yield curve. A sharp depreciation of the exchange rate would have a direct impact on tradable goods inflation in the near term, but the slowing in domestic demand as a result of the disruption to capital inflows would reduce non-tradable inflation.9 On balance, if underlying inflation pressures ease, it may leave scope for the RBNZ to reduce the Official Cash Rate (OCR). This would facilitate the depreciation of the exchange rate and associated adjustment of the current account. However, a reduction in the OCR may have only a limited impact on medium and long-term interest rates which are influenced more by the cost of funding offshore. If longer-term interest rates rise significantly, the RBNZ may need to reduce the OCR more aggressively.

31. Fiscal policy could play a role in responding to a disruption in capital inflows. The strong fiscal position, with large surpluses and positive net financial assets, provides significant flexibility for fiscal policy to respond. If growth and inflation slow with a disruption to capital inflows, the automatic stabilizers should be allowed to work in a counter-cyclical manner. In addition, a slowing in growth would provide an opportunity for fiscal policy to transition to the lower level of surpluses targeted for the medium-term. But care should be taken to ensure the current medium-term fiscal objectives are met, as sound fiscal policy underpins New Zealand’s strong credit-rating. Moreover, a sharp fall in public saving over the medium-term would work against the rise in private saving needed to help adjust the saving-investment imbalance.

Enhancing Liquidity Management

New Zealand banks are required to publish information about their risk-management policies, but the detail of the reporting is largely at the bank’s own discretion. Apart from the reporting requirement, no liquidity requirements, limits, or rules exist in New Zealand at present for registered banks. However, the RBNZ is planning to introduce liquidity guidelines in 2008.

Prudential steps outlined in the Global Financial Stability Report (IMF, 2008) with regard to funding liquidity that may be considered in New Zealand, include:

  • minimum liquid assets requirements,

  • limits on maturity mismatches in bank’s asset/liquidity structures,

  • rules governing diversification of funding sources.

Systemically important banks and other financial institutions should also be encouraged to change their practices. In particular:

  • Greater transparency is needed regarding commercial bank liquidity management policies and practices, including liquidity risk appetite, funding sources, liquidity commitments (especially to off-balance sheet entities), maturity mismatches and contingency plans.

  • More severe stress testing of funding liquidity should be adopted, taking account the possible closure of multiple wholesale markets (both secured and unsecured) and widespread calls on liquidity commitments. Results of these liquidity stress tests should be made publicly available.

  • Banks should take greater account of multi-currency funding liquidity shocks, taking into account potential stress in foreign currency swap markets.

The Global Financial Stability Report (IMF, 2008) also notes that care will need to be taken if a more rules based approach is adopted. First, it would be difficult to define a single norm that applies well to banks with very different business models, such as predominantly wholesale-or retail financed banks. Second, if very costly liquidity requirements are imposed, supervisors will need to take account of the incentives for banks to circumvent them, including via off-balance sheet entities and other counterparties, and the welfare loss from increasing the cost of financial intermediation.

The Financial Stability Forum’s April 2008 report on enhancing Market and Institution Resilience also discussed liquidity management. The report noted that the Basel Committee on Banking Supervision plans to issue for consultation sound practice guidance on the management and supervision of liquidity by July 2008. The guidance will cover the identification and measurement of liquidity risks, together with stress tests.

References

  • Brooks, R., H. Edison, and F. Vitek, 2008, “Exchange Rate Assessments for Australia and New Zealand,” forthcoming IMF Working Paper.

  • Debelle, G., and G. Galati, 2005, “Current Account Adjustment and Capital Flows,” BIS Working Paper No. 169 (Basel: Bank for International Settlements).

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  • Edison, H., 2007, The Kiwi Dollar-Getting Carried Away? Selected Issues, IMF Country Report No. 07/951 (Washington: International Monetary Fund).

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  • Financial Stability Forum, 2008, Report of the Financial Stability Forum on Enhancing Market and Institutional Resilience, April. Available via the web: www.fsforum.org/publications/FSF_Report_to_G7_11_April.pdf2008.

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  • International Monetary Fund, 2004, New Zealand-Financial System Stability Assessment, IMF Country Report No. 04/126 (Washington: International Monetary Fund).

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  • International Monetary Fund, 2008, Global Financial Stability Report: Spring 2008 (Washington: International Monetary Fund).

  • International Monetary Fund, 2007, World Economic Outlook, October 2007, Chapter 3. World Economic and Financial Surveys (Washington: International Monetary Fund).

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  • Rozhkov, D., 2007, Analysis of Vulnerabilities, Selected Issues, IMF Country Report No. 07/951 (Washington: International Monetary Fund).

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  • Woolford, I., Reddell, M., and Comber, S., 2002, “International Capital Flows, External Debt, and New Zealand Financial Stability,” RBNZ Bulletin, Vol.64 No. 4.

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1

Prepared by Ray Brooks (Ext. 3-4454).

2

Based on data provided by the RBNZ for mid-2007 for banks. Figure I.3a presents debt maturity data for banks and non-banks.

3

Capital inflows episodes were identified on the basis of deviations from trend inflows and were typically greater than 4 percent of GDP per annum for advanced countries (see WEO October 2007, Appendix 3.1). The episodes for advanced countries include Australia (1988-90, 1995–99), Canada (1997–98), Denmark (1994, 1997, 1999), Iceland (1996–2000), Malta (1993–2000), New Zealand (1992, 1995–97, 2000), Norway (1993, 1996–97), and Sweden (1988–90, 1998–2000). In addition, four advanced countries are experiencing ongoing capital inflows: Australia (2003-), Iceland (2003-), Malta (2005-) and New Zealand (2004-).

4

The WEO study found that the association between higher government spending and a hard landing was statistically significant for the wider group of 50 countries. The smaller group of advanced countries does not have enough observations to test the statistical significance of this link.

5

Medium-term funding costs, as indicated by five-year credit default (CDS) swap spreads for the four large Australian banks, spiked in March 2008 at more than 150 basis points, before easing to about 90 basis points in early April 2008. Before the turmoil broke out in late 2007, five-year CDS spreads for the four Australian banks were less than 10 basis points.

6

The funding-costs-stress scenario in the FSSA assumes an increase in short-term interest rates to 18-20 percent, a depreciation of the New Zealand dollar by 40 percent, and a permanent increase in the risk-premium for New Zealand dollar denominated debt.

7

Gross external debt stood at 120 percent of GDP at end–2007, with debt maturing in one-year or less at 65 percent of GDP. A 100 basis point increase in the cost of the short-term debt would imply a 0.7 percent of GDP increase in income debits in the balance of payments after one year, if all the debt were rolled over at the higher funding cost.

8

In August 2007, the RBNZ began to accept New Zealand bank bills in its overnight reverse repurchase facility. This increased banks’ liquid assets, as a bank could agree to hold another bank’s bills in exchange for its own bills. Both banks could then use the bills to gain liquidity from the RBNZ in the reverse repurchase facility. However, banks may be unwilling to lend to each other during a disruption to capital inflows.

9

Looking back at the previous capital inflow episodes in New Zealand shows that in the two years following the 1995-97 episode, headline CPI inflation fell sharply, while in the two years following the 2000 episode, headline CPI inflation was unchanged.

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Cover IMF Staff Country Reports
New Zealand: Selected Issues
Author: International Monetary Fund
Volume/Issue:
Volume 2008: Issue 164
Publisher:
International Monetary Fund
ISBN:
9781451973877
ISSN:
1934-7685
Pages:
34
DOI:
https://doi.org/10.5089/9781451973877.002
  • View in gallery

    New Zealand: Capital Flows

    (March year, as percent of GDP)

  • View in gallery

    Net Foreign Liabilities

    (2006, as Percent of GDP)

  • View in gallery

    New Zealand: Net Capital Inflows

    (Four quarter running total, as percent of GDP)

  • View in gallery

    New Zealand: Net Foreign Liabilities

    (As percent of GDP)

  • View in gallery

    New Zealand Bank Borrowing Offshore

    (Amount outstanding, as percent of GDP)

  • View in gallery

    New Zealand: Bank’s Share of Funding from non-residents

  • View in gallery

    New Zealand Debt by Residual Maturity

    (Bank and Non-Bank Debt, as percent of Total Debt)

  • View in gallery

    New Zealand: Local Currency External Debt as share of Total External Debt

  • View in gallery

    Advanced Economies: Post Inflow GDP, Selected Macroeconomic Variables, and Policy Indicators 1/

  • View in gallery

    New Zealand’s Current Capital Inflow Episode Compared with Advanced Countries with Weak Post-Flow GDP Growth 1/

New Zealand: Capital Flows

(March year, as percent of GDP)

Net Foreign Liabilities

(2006, as Percent of GDP)

New Zealand: Net Capital Inflows

(Four quarter running total, as percent of GDP)

New Zealand: Net Foreign Liabilities

(As percent of GDP)

New Zealand Bank Borrowing Offshore

(Amount outstanding, as percent of GDP)

New Zealand: Bank’s Share of Funding from non-residents

New Zealand Debt by Residual Maturity

(Bank and Non-Bank Debt, as percent of Total Debt)

New Zealand: Local Currency External Debt as share of Total External Debt

Advanced Economies: Post Inflow GDP, Selected Macroeconomic Variables, and Policy Indicators 1/

New Zealand’s Current Capital Inflow Episode Compared with Advanced Countries with Weak Post-Flow GDP Growth 1/