NZ's overseas debt will come back to bite us, says Bollard

Alan Bollard says few developed countries have external debt as high as NZ's. Photo / Mark Mitchell

A high level of overseas debt makes New Zealand vulnerable and the country cannot expect to keep increasing it without consequence, says Reserve Bank Governor Alan Bollard.

In a speech to the Wellington Regional Chamber of Commerce yesterday Bollard said financial markets and credit rating agencies used a range of indicators to form their assessment of a country's viability or fragility.

At the moment most of the focus was on sovereign debt and fiscal accounts, and on that score New Zealand was generally rated very positively, he said.

But as the credit downgrade of Spain showed, a country's overall external indebtedness could also be important and few developed countries had net external liabilities as high as New Zealand's 90 per cent of gross domestic product (GDP).

"This external deficit cannot keep increasing with impunity," he said.

"Ultimately the markets would penalise the large external liabilities and deficit position by requiring a larger premium for its continued funding, and the sheer size of servicing our obligations could become an intolerable burden to the country."

New Zealand already spends between 6 and 7 per cent of its annual output servicing that debt and returning profits to foreign owners of businesses here.

While the current account deficit has fallen to about 3 per cent of GDP, its lowest level since 2003, the Reserve Bank forecasts it to be back above 7 per cent in three years time as the economic recovery gathers pace.

"Our calculations suggest that reducing current account deficits to no more than about 5 per cent of GDP on average is necessary to stabilise the net investment position as a share of GDP, while reducing that share over time would require lower deficits to be run."

Bollard said policies which would help included continuing to move the tax system in favour of saving rather than consumption, ensuring fiscal policy remained focused on achieving a conservative path for public debt, financial regulation that discouraged excessive rates of credit expansion and excessive leverage, and looking for ways to help ensure the burden of monetary policy adjustment was not borne excessively by exporters and those competing with imports.

"But this challenge is not primarily up to the Government," he said. "It mainly requires the changes that we are seeing in household behaviour continue."

Since the global financial crisis, New Zealanders had decided they were over-exposed to property assets and to high debt and they were prepared to constrain consumption to improve their savings.

"But we are unclear how much rebalancing they contemplate, and for how long." Over the past 10 years households had spent on average about $1.09 for every $1 they earned. That was one of the reasons the official cash rate had been so high, Bollard said.

While the Reserve Bank forecast household savings rates to improve, they are expected to remain negative.

But higher interest rates on bank deposits helped, as would revamped regulation of financial advisers, investment offers and finance companies, more attention to financial literacy, and a rising interest rate track which favours savers.