Economic downturn likely to hit employers not workers

Heard the one about the man who stepped off the top of a tall building? As he hurtled past the 10th floor balcony he was heard to say: "Okay so far ... "

Is that a metaphor for the position of today's carefree consumer, oblivious to an economic slowdown that has pushed business confidence to levels normally associated with recession?

Does a really hard landing loom? Most likely not, economists say.

They paint a picture in which the business sector bears the brunt of the slowdown, especially those firms which are exposed to the exchange rate as exporters or because they compete with imports.

The overvalued dollar, high energy prices and rising wages put their profits under pressure and they respond by cutting back on investment, albeit from high levels, and pushing up selling prices where they can.

But they hang on to employees for as long as they can, because their recent experience has been that good workers are hard to find, especially skilled ones. If they lay people off, chances are when they need them again they won't be there.

Economists say this labour hoarding should cushion the impact of the business downturn on the household sector, but it depends on businesses seeing some light at the end of the tunnel in the form of relief on the exchange rate and interest-rate fronts.

They warn that the economy is more than usually vulnerable to any shocks from the global economy.

Deutsche Bank chief economist Darren Gibbs said that while the most likely scenario was one in which the corporate sector, not households, bore the brunt of the downturn, there was a risk of a more difficult scenario in which there was major shake-out in the labour market.

"If the employment security that has enabled people to feel they can take on debt and bid up house prices is undermined, the housing market will go backwards and then you will get a major retrenchment in consumer spending; in which case the economy is likely to go into recession," Gibbs said.

"Who would I not want to be this year? I wouldn't want to be a marginal employee in an exporting company. And I wouldn't want to be highly leveraged in the housing market."

In the New Zealand Institute of Economic Research's quarterly survey of business opinion, released on Tuesday, for the first time in five years more businesses said they expected their staff numbers to fall rather than to rise.

Manufacturers, in particular, have been retrenching. A net 10 per cent of manufacturers responding to the NZIER survey said employee numbers had dropped in the December quarter, following a net 14 per cent in September. A net 18 per cent expected their staff numbers to fall over the next three months.

Graham Mountfort, chief executive of Paper Coaters, a Penrose-based packaging manufacturer which exports about 60 per cent of its output, now employs 10 per cent fewer people than a year ago as a result of not replacing people - especially on the factory floor.

But, at the same time, he has had to recognise the strength of the job market and continuing skill shortages by paying key people substantial increases to retain them and, in one case, recruiting in South Africa.

Other manufacturers spoken to by the Herald expressed a similar reluctance to lose people they had struggled to recruit or had spent money training.

But Bank of New Zealand economist Stephen Toplis said there were limits to that when profits were under pressure.

"At some point if your per unit profits turn negative you say: 'Well I can't really afford to let these guys go, but I can't afford to keep them either."'

Any softening of the job market starts from a position where the unemployment rate is 3.4 per cent, the lowest in a generation and among the lowest in the world.

So even though the Reserve Bank is forecasting no growth in employment over the year ahead, it only expects that to push the unemployment rate to a little over 4 per cent by March next year.

The Department of Labour monitors advertised job vacancies. It reports vacancies in November were 3 per cent lower than in November 2004, with most of the decline in Auckland.

Toplis said the fall in hiring intentions had not yet indicated that the labour market was going to ease enough to curb inflation.

"I'm sure it will in due course.

"But that is the piece of the jigsaw that is missing in terms of getting the economy back on an even keel," he said.

Growth in consumer spending has outstripped the economy's capacity to produce goods and services. That excess demand sucks in imports, much of which still has to be paid for, and pushes up prices. Inflation has been above 3 per cent - the top of the Reserve Bank's target band - since the middle of last year.

The traditional remedy is for the bank to push up short-term interest rates and, thereby, floating mortgage rates, leaving consumers - those with mortgages anyway - with less to spend on other things.

But these days, most mortgage debt is out of Governor Alan Bollard's reach - at least in the short term; 80 per cent is at fixed rates, mainly for one or two years, largely funded by overseas investors.

The interest rates are attractive to overseas investors, but not too rich for local borrowers' blood.

Banks have been happy to be intermediaries between willing lenders overseas and eager borrowers here, but that extra demand for New Zealand dollars has kept the exchange rate high, hammering the export sector.

Fixed mortgage rates on offer have been climbing, however, and so therefore has the effective or average mortgage rate people pay, as loans taken out at lower rates mature and have to be refinanced.

There was some tentative evidence this week that this may be starting to weigh on the housing market.

Real Estate Institute figures show house sales were soft in Auckland last month, down by a sixth from the average of the three previous Decembers. The median price for Auckland at $395,000, was however, still 12.9 per cent up on a year earlier.

Nationwide, rents rose only 2.5 per cent last year, according to the consumers price index - one of the indicators that double-digit house price inflation cannot continue indefinitely.

The Reserve Bank expects house prices to flatten off this year and perhaps dip by about 5 per cent next year.

That would turn off the "wealth effect", where homeowners borrow and spend on the strength of increases in their housing equity.

Combined with little or no net growth in employment, that would take a lot of the wind out of the sails of consumer spending.

But household incomes would still be boosted by higher wages - 4 or 5 per cent higher, Gibbs forecasts - and the Government's Working for Families package.

"Consumer confidence has come off its peaks but is still elevated compared with how the corporate sector feels," Toplis said.

"Employees eventually must take some of the heat but they are less vulnerable than the owners of capital. It's a classical end of the cycle: Returns to labour go up and returns to capital go down."