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Export concentration into China ‘a concern’, RBNZ’s Wheeler says

Reserve Bank governor Graeme Wheeler has reservations about New Zealand's increasing concentration of exports into China, which now dominates foreign purchases of local agricultural products.

Wheeler told Parliament's finance and expenditure select committee in Wellington that dairy prices have climbed 50 percent this year, describing it as "a massive increase." China takes about 25 percent of New Zealand's dairy exports, putting a "high concentration" in one part of the world, he said.

"One thing that's a concern is how much of our exports are now concentrated with China," Wheeler said.

"China basically accounts for pretty well the largest market for all our agricultural exports except beef where it's number two."

Last month, Wheeler told the same committee that a Chinese downturn was the biggest threat to New Zealand's economy, when appearing before MPs to field questions on the bank's six-monthly financial stability report.

That report cited a "disorderly slowing" in China as a potential risk to the local financial system, which could cause a fall in commodity prices "significantly impacting the indebted parts of the agriculture sector."

Yesterday, Fonterra Cooperative Group chief executive Theo Spierings said Chinese demand for dairy products was largely in milk powder, rather than in typically higher-value cheese and casein.

That created a pricing disparity and causing some headaches for the world's biggest dairy exporter on how to settle its production mix, which is currently about 70 percent of capacity is in milk powder and the remainder in cheese and casein.

New Zealand's exports to China have more than quadrupled to an annual $8.87 billion since signing a free trade agreement with China in 2008, and account for about 19 percent of the country's international sales.

Over the same period, exports to Australia, which is still the biggest market, have crept up about 3.9 percent to an annual $9.53 billion in the year ended Oct. 30, and sales into the US, New Zealand's third-biggest destination, have been largely static at $4.12 billion in the latest period.

New Zealand's terms of trade, which measure the quantity of imports the country can buy with a set amount of exports, reached a 40-year high 7.5 percent in the September quarter bolstered by surging dairy prices, and if that strength persists could force more aggressive interest rate hikes, the Reserve Bank said today in its monetary policy statement.

In an alternative scenario, the bank projected a steeper increase in the 90-day bank bill rate, a proxy for the benchmark official cash rate, if strong commodity prices led to a higher terms of trade for an extended period.

The bank predicted that outcome could be driven by stronger Chinese consumption for commodities such as dairy, lamb and beef, and that potential reforms in the world's most populous nation could benefit New Zealand exports for the next decade.

Chief economist John McDermott told reporters this morning the chance of the scenario occurring was probably less than 50 percent, but was a material risk.

At the select committee, McDermott said the near-term outlook for commodity prices was upbeat, but that exporters can't rely on that lasting forever.

"Our export prices are very strong at the moment, 40-year highs, every time you get to that point you wonder, how long can it last?" McDermott said. "For the moment the near term looks very positive, the dairy auctions look good, but you can't plan on always sunshine."


Comments and questions

This is a valid concern considering the increasing geopolitical tension between Japan and China. If a military conflict should develop, as seems more likely after the recent military ramp-up announced by the Abe administration, NZ would suffer a sudden 25% drop in sales.

6.5.4. The Chilean rule of structural balance

Chile recently adopted an ambitious Rule of fiscal policy, designed to facilitate the operation of counter cyclical policies and improve, simultaneously, the fiscal solvency. It is an elegant and simple rule: an explicit commitment to maintain a structural surplus of 1% of the GDP each year.

The structural balance is estimated by removing the effects of the variation in the copper price (using a team of experts to estimate long-term copper price) and the variation of the economic cycle of tax receipts (using estimations of elasticity of tax receipts and a measure of the potential GNP).

This rule makes the government maintain high surpluses during periods of expansion and rises in the copper price, and allows maintaining moderate deficits during periods of economic contraction and low copper prices. For example, the effective deficit of the year 2001 and the estimations for the year 2002 were consistent with the structural surplus demanded by the rule. Anticyclical policies and fiscal stabilization funds: [Background], advantages and disadvantages. A view of the Chilean economy* Wally Meza San Martín** (2005)

Any decent business person will tell you having some 25% of your business with one client or location exposes yourself to forward difficulties.

Fonterra have to move into more value added products, which will spread the business risk while providing an end product for its supply of bulk goods. This should have been done ages ago, but Ferrier and Van Heyden were more interested wrestling control away from the farmers.

Thank goodness they have gone, because co-ops are the best form of ownership, because they are less exposed to short term raiders.

Theo Speirings looks the goods to me, and Graeme Wheeler has got this one right.