Friday, 23 March 2018

Inside the consensus

The consensus economic forecasts collated by the New Zealand Institute of Economic Research (latest one here) are a remarkably useful tool.

The overall picture from the latest one makes a fair deal of sense, with ongoing growth expected of about 3% a year. In per capita terms, allowing for population growth of say 2% a year, it's not outstanding, but at least the current cyclical expansion, which started back in early 2011, has still got legs.

We've got fiscal policy delivering a decent-sized (and pro-cyclical) boost to the economy, monetary policy is also supportive, the world economy is showing every sign of strengthening, as you can see from the latest forecasts from the big multilateral organisations (the OECD's is here) and from global business surveys such as the J P Morgan / Markit one, and at home we've got, I reckon, fairly strong wealth effects from the national rises in house values.

The consensus numbers themselves are obviously of interest in their own right - and over time are likely to prove better than any individual forecaster's - and it's good to know that on the latest consensus view we are in for further economic growth, a falling unemployment rate, modest inflation, and the fiscal books in good shape. But the most interesting things, for me, lie in the fine detail of the outlook rather than the consensus numbers themselves.

First thing I always check for is revisions to people's thinking: that's because it's surprises that tend to move markets, rather than the eventuation of the widely anticipated, which tends to be already baked in. This time round, there's not a lot of change to the expected GDP track compared to what the forecasters thought last December: no joy, then, for the equity markets which might have been looking for some signal of stronger than expected corporate profitability.

The second thing I look for is where there is most uncertainty or disagreement amongst the forecasters. This time round (as it has been before) the key moving part is housebuilding.

At one extreme we've got the view that we'll have trouble even maintaining the current volume of house construction - the most pessimistic view is that it'll ease off a little as Auckland new builds don't fully compensate for the rundown of the Canterbury reconstruction - and at the other we've got the view that we are off to the races, with substantial increases in coming years. Presumably that view is some combo of a judgement that the Auckland building trades are not at full capacity and that KiwiBuild kicks in big and early. Can't say I see strong evidence for being down the gung-ho end of that spectrum.

One oddity is the reasonably modest consensus outlook for non-residential investment. You'd wonder why - if we're reaching labour market capacity constraints, as we may be - businesses aren't splurging more on gear, especially as the Kiwi dollar is reasonably high (the bulk of our capital gear is imported) and (to the degree that investment is interest-rate sensitive) financing costs are at unusually low levels. We're also starting from a position where we're not hugely equipped with gear in the first place: one researcher has calculated that we could close 40% of our productivity gap with Australia if our workforce had the same level of capital equipment as theirs.

I also wonder about the implied rates of productivity growth in the consensus outlook. In the year just finishing, GDP growth is expected to have been 2.9%, and employment growth 3.0%, which means that labour productivity will have declined a smidgen. But in the March '19 year, on the consensus view GDP growth will be 3.1% and employment growth will be 2.0%, so labour productivity will rise by 1.1%, and there are 1.7% and 1.5% productivity gains expected in the following two years as well. I'd love to see it happen, but right now I can't see what the mechanism is that will get our productivity performance improving so much so soon.

And maybe I'm cynical, but in our political system I simply don't see how fiscal surpluses will be allowed to grow and grow, from $2.7 billion now to an expected $5.7 billion in three years' time. Three billion more of the folding stuff available - I'll be mightily surprised if it withstands the clamour for increased spending.

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