ANNEX: THE MACROECONOMIC CONTEXT OF NEW ZEALAND'S ECONOMIC REFORMS

  1. In an effort to diversify the economy and control the balance of payments deficit, the New Zealand government of 1938 introduced import licencing and exchange controls. This protection of the domestic manufacturing sector was maintained and New Zealand, for many years thereafter, had what were probably the highest tariffs on imported manufactured goods of any OECD country, and was the only developed country to maintain a comprehensive system of quantitative controls on imports. During the late 1950s and 1960s, New Zealanders enjoyed one of the highest standards of living in the world. Most of the country’s agricultural produce was exported to the United Kingdom, which was an assured market with generally high prices. But New Zealand’s trade balance was hit hard by the oil price shocks of the 1970s, and by the accession of the UK to the European Community and its protectionist agricultural policy. New Zealand's secure, high priced market for agricultural exports became increasingly compromised by adverse market developments in the UK, driven by European Community agricultural policies. During the 1980s the New Zealand government intensified its intervention in the economy, to combat inflation, and balance of payments and current account deficits.
  2. Initially there was little opposition to this increased government intervention. For many years, few people were aware that the economy's underlying situation had actually deteriorated significantly. Throughout the 1970s and early 1980s, the inefficiencies, though obscured, had continued to multiply and deepen. Although attempts were made to control inflation, this was only symptomatic, and through the brief application of the expedient of a wage and price freeze imposed in June 1982.
  3. By mid-1984 a number of acute problems had to be addressed:

The fiscal deficit, which had reached 9% of GDP, was imposing ever larger debt servicing burdens on taxpayers.

A lax monetary policy, including the government's suppression of interest rates, had led to excessive monetary growth.

A persistent current external deficit complicated overseas debt management, and put pressure on the exchange rate, which remained artificially overvalued.

  1. The economy was stagnating and unemployment was growing. There was also heavy selling of the New Zealand dollar, which threatened to exhaust the country's foreign exchange reserves. In short, most policy instruments were subordinated to or dominated by the wage and price freeze. It became inevitable that the freeze would have to be removed and that there would then be a resulting resurgence of inflation.
  2. In 1984 the New Zealand government acknowledged that current levels of support to agriculture were unsustainable, and announced a programme for the termination of price stabilisation and support programmes. But as the country's economic performance worsened, the impetus for more comprehensive reforms grew. A snap election in 1984 brought a different party to power.
  3. Across the economy, the new government implemented reforms with a focus on macroeconomic policies and the aim of promoting efficiency and generating sustained economic growth. The philosophy underpinning the changes was that of "the level playing field": the government relinquished the role it had assumed under previous administrations of "picking winners" for which subsidies and tax incentives would be provided. On the level playing field, all sectors would compete equally. Market forces, rather than government, would select the winners.
  4. All sectors of the economy were affected. One of the first acts of the new government was to announce a 20% devaluation of the New Zealand dollar, together with removal of controls on all lending and deposit rates. Exchange controls were removed in December 1984 and the New Zealand dollar has floated since March 1985.
  5. Key sectors of the economy, including finance, communications and transport, were deregulated. Export assistance was removed. Tariffs were lowered and the extensive import licensing system was phased out. Free trade with Australia expanded under the Closer Economic Relations agreement, so that it now encompasses almost all goods and most services. The tax system was overhauled, creating one of the least distorting tax systems in the OECD.
  6. The Reserve Bank Act 1989 gave the central bank increased autonomy in the pursuit of a single goal: to achieve and maintain price stability. More recently, industrial relations policy was changed by the Employment Contracts Act 1991. As a result, centralised pay bargaining has been increasingly replaced by site agreements and individual employment contracts.

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