Currency union consummation a long time coming

Lower borrowing rates for New Zealand businesses and more stable returns for exporters are among the key benefits the adoption of a single currency with Australia would likely bring, the Reserve Bank says.

But research into the effects on New Zealand's economy of adopting a common currency had not established clear overall benefits or disadvantages, RBNZ economist Chris Hunt said in the bank's latest bulletin released shortly before Christmas.

"The case for and against a common currency remains an open issue from an economic perspective," said Hunt.

Establishing a common currency was not part of the Government's policy platform and debate on the issue continued to wax and wane over time, partly depending on economic conditions, he said.

The issue had been "in hibernation" for a while.

"This can be partly attributable to the robust economic growth New Zealand has experienced relative to Australia over the past five years."

But Australia's economic growth is expected to outstrip New Zealand's over the coming year.

Economists polled by Bloomberg News expect the Australian economy to grow by 3.3 per cent next year and New Zealand's to slow to an annual rate of 1.5 per cent.

The sight of New Zealand's nearest neighbour and biggest trading partner's economy disappearing into the distance would likely reignite the debate.

Hunt said the basic economic arguments for and against a single currency continued to endure.

"Lower transaction costs and reduced exchange rate uncertainty from a single currency would enhance greater trade between the two economies, reinforcing existing policy efforts to increase integration."

Also, it was likely that a single currency would see New Zealand adopt Australian monetary conditions, reducing or eliminating the relative risk premium embedded in New Zealand interest rates.

International investors currently demanded a currency risk premium for holding assets in small illiquid currencies such the New Zealand dollar, said Hunt. That would be reduced by adopting a single currency.

"This could lower the cost of capital facing New Zealand firms and hence boost investment."

But higher interest rates could be thought of as "the price we pay for independent monetary policy - the premium we pay as insurance against shocks to the New Zealand economy".

Having independent monetary policy was useful because of differences between the two economies. Australian exports were mainly hard commodity-based (coal, iron and gold) and New Zealand's continued to be mainly dairy, meat and forestry.

"So differences in the terms of trade movements between the two economies could see different monetary policy settings as a result."

However, "the true value of an independent monetary policy could well lie in the ability to respond to major shocks".

"Were disease to strike the New Zealand agricultural sector, the options to have a large shift in the real exchange rate via changes in the nominal value of the currency may be invaluable."

Hunt also pointed out that a single currency would not eliminate exchange rate uncertainty.

"It would eliminate it only for the 22 per cent of exports that currently go across the Tasman. Nominal exchange rate uncertainty would still be a fact of life for the majority of New Zealand exporters."

Hunt said despite increasing trade, cross border investment, progress on joint regulation and the increasing harmonisation of policies, there was at present no formal political push from either New Zealand or Australia to create a genuine single transtasman market, along the lines of the European Union.

"This partly explains the absence of discussion of a common currency as a logical end point for economic and monetary integration across the region."

Currency union with Australia found strong support among respondents to the Business Herald's "mood of the boardroom" survey last year.

Asked whether New Zealand should seek to adopt a common currency with Australia if there is a net economic benefit to New Zealand, 62 per cent said yes, 31 per cent no and 8 per cent were not sure.

Respondents were split between doing it by adopting the Aussie dollar or having a combined Anzac dollar.

Among the political parties, Labour, New Zealand First, the Greens, the Progressives and the Maori Party all said they were opposed to currency union. United Future said it would be in favour if the net economic benefit to New Zealand was clear.

Act was open to the idea and National said it had no firm policy but wanted the idea explored.

When the issue was widely debated in 1999-2000, Don Brash, then Governor of the Reserve Bank, was unenthusiastic because New Zealand would be forced to live with Australian monetary policy.


CURRENCY UNION WITH AUSTRALIA

Pros:

* Lower transaction costs and reduced exchange rate uncertainty would encourage greater transtasman trade.

* Reduction in currency risk premium would likely see lower lending rates for business.

Cons:

* Loss of independent monetary policy - Australian interest rate settings may not be appropriate for New Zealand's economy.

* Would only reduce exchange rate uncertainty on trade with Australia.