New Zealand is expensive, Reserve Bank economist says – here’s what we can do about it

Source: Radio New Zealand

New Zealand is an expensive country, Reserve Bank chief economist Paul Conway says, with many products priced well above the OECD average.

And some things – such as construction services, household utilities and some food items – are among the most expensive in the OECD.

Conway spoke to the National Financial Advisers Conference in Auckland on Wednesday.

He said inflation had been one of the most obvious economic disruptions over the past few years, particularly over the pandemic, when demand combined with a lack of supply sent inflation soaring at the sharpest rate in decades.

He said people were still asking why everything felt so expensive, even though inflation was much nearer the Reserve Bank’s targets than it had been.

Conway said, since the start of the pandemic, overall prices had risen by 26 percent and the price of some essentials had increased much more.

Wages rose 32 percent but that increase was probably not evenly felt – people who moved jobs were more likely to have received larger wage increases.

Conway said that for the past five years, one or more of a range of everyday household essentials that were hard to avoid had been increasing strongly in price at almost every point. “That included prices for council rates, construction services, some foods – including meat and butter, and insurance.

“Because households cannot easily avoid some of these costs, this has no doubt added to the sense of a ‘cost-of-living crisis’.”

Rates, insurance and gas had jumped particularly in recent years.

Tobacco products were among the most expensive in the OECD and milk, cheese, eggs and fruit prices were well above the average. Seafood, clothing, and meat were slightly below average.

“For services, the price of construction in New Zealand is the highest in the OECD and more than double the average. This is undoubtedly a handbrake on housing and infrastructure development here. In fact, the price of ‘capital formation’ – which covers machinery, equipment and construction – is 70 percent above average in New Zealand and also the highest in the OECD. The price of housing services and utilities in New Zealand is also assessed as being the most expensive in the OECD.”

He said low and stable inflation mattered for the cost of living but it was not the whole story.

Monetary policy – such as the official cash rate set by the Reserve Bank – could help to anchor prices but not make New Zealand affordable on its own. He acknowledged that inflation ended 2025 just above the Reserve Bank’s 1 percent to 3 percent target band and was likely to be more elevated because of the Middle East conflict.

He said what mattered for households was their purchasing power.

Before 2020, the purchasing power of wages in New Zealand was growing faster than the OECD average on the back of strong employment growth and favourable terms of trade.

“Today, while wage purchasing power is around average across all 38 OECD members countries, it is about 20 percent below the average of the more advanced OECD economies that we typically compare ourselves to.”

Productivity the key

For there to be continued sustained improvements in purchasing power, there would have to be more productivity, he said.

Real per capita income in New Zealand was below the OECD average, he noted. It had been about 80 percent of the average until the mid-2000s then increased to more than 95 percent by 2020.

“Since 2020, real income in New Zealand has fallen back to around 90 percent of the OECD average and the income gap vis-à-vis Australia has widened. Purchasing power, as measured by real income, has not kept pace with the rest of the OECD nor Australia since the beginning of the pandemic.”

Wages had declined less compared to the OECD average and were at best average, he said.

“Importantly, this is compared to all 38 current OECD member countries, which includes several emerging economies. Compared to the 30 OECD member countries in 2010, average incomes in New Zealand sit around 20 percent below the average.”

He said productivity growth would be the single most powerful determinant of higher real incomes and better purchasing power over the long run.

“New Zealand’s productivity performance leaves much to be desired and has lagged other OECD economies. Further, productivity growth in the New Zealand economy fell significantly following the global financial crisis and has been negative in the wake of the pandemic.

“While low and stable inflation is a key ingredient in lifting productivity and improving purchasing power, it is insufficient on its own. By anchoring prices, monetary policy creates the conditions for growth. But sustained gains in purchasing power require structural improvements in the economy.”

Measures to improve resilience

He said a more fragmented and unpredictable global economy would raise the stakes for ensuring New Zealand’s structural policies were resilient, adaptive and fit for purpose.

“We are in a new era of heightened geopolitical risk and persistent uncertainty, with the conflict in the Middle East a timely reminder of how quickly geopolitics can disrupt the global economy. At the same time, cross-country flows of trade, capital, and people are shifting, governments are becoming more interventionist, and the rules-based order that once underpinned global integration has weakened considerably.

“This is not a temporary shock that we can simply wait out. It’s a durable shift that makes the global economy more difficult and dangerous for small economies like New Zealand. We are more exposed to external shocks, fragile global supply chains, and shifts in global rules and norms over which we have little control.”

He said sustaining living standards would depend on structural policy settings that built resilience into the structure of the economy by encouraging flexibility, investment and adaption.

“A more resilient and flexible economy would mean monetary policy does not have to work as hard, or be as aggressive, to stabilise inflation as shocks wash through the economy.

“While monetary policy plays a critical role in responding to shocks, it cannot solve New Zealand’s ‘cost-of-living crisis’. Low and stable inflation underpins economic stability and is critical for sustained gains in purchasing power. But monetary policy does not create prosperity directly. It creates the conditions in which prosperity can endure.

“Improving the purchasing power of New Zealand households requires improved productivity. Productivity gains support stronger real wage growth, while competitive markets help keep price increases in check… stronger productivity raises the economy’s speed limit – allowing faster growth without inflation. A more resilient and flexible economy also means monetary policy doesn’t need to be as aggressive to keep inflation stable when shocks hit.”

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– Published by EveningReport.nz and AsiaPacificReport.nz, see: MIL OSI in partnership with Radio New Zealand