Weather forecast: floods of foreign money

TONY ALEXANDER

TONY ALEXANDER
Last updated 07:00 11/10/2012
Tony Alexander
Fairfax NZ
BNZ chief economist Tony Alexander

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OPINION: I am in London again on my six-monthly visit to get a feel for how things are and whether we can reasonably start feeling that the European debt crisis is reaching an end.

It most definitely is not, and this week we are likely to see various agencies revise downward their forecasts for European, British and world growth for the coming year or two.

The central dynamic in Europe remains one of investors who for years were willing to fund excess borrowing by southern banks, governments and businesses now simply wanting their money back. And after each official bailout or promise of help from the European Central Bank they smile, say that is good, and keep asking for their money back.

In Greece the prime minister has expressed concern about the way his society is falling apart and is asking for an extra two years to push through measures aimed at giving Greece some chance of having an economic base efficient enough that it can remain in the euro. It is by no means certain that the Greek people are willing to accept modernisation of their tax, employment, and benefit systems without eternal subsidies from the rest of Europe. Therefore much as the European Central Bank president has said he will do whatever it takes to keep the euro intact, there is still a reasonable chance that Greece will leave - though that does not appear likely in the next few months.

In Spain Catalonia wants to break away from the rest of the country because they are wealthy and don't want to spend forever subsidising their recalcitrant countrymen.

In other words they are as fed up handing out benefits as the Germans, Austrians and Dutch. The Spanish banks need at least €60 billion to build their capital bases back up, and injecting the money will mean a further increase in Spanish government debt.

In Germany there is increasing resistance to further money going to inefficient countries further south and economic data have been getting worse as weakness in the south, and perhaps also in China, affects industrial output.

Most exports from Britain go to Europe so Europe remaining in recession will mean the British economy remains depressed too. In fact it is looking like fiscal austerity will need to be maintained in Britain until perhaps 2018.

What this means is that central banks are likely to keep printing money for an undefined period as they try to deliver the hair of the dog that bit them to their countrymen.

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That is, the current problems were caused by a debt surge and the central banks are trying to get people and businesses borrowing money again in the belief that that is how growth will come about. This ridiculous situation unfortunately affects us heavily.

For a start we can only expect that the NZ dollar will remain strong for a long time against the British pound, euro, and US dollar. Second, demand for many of our exports from the first two areas in particular will be weak for quite some time.

Just because economies are going to stay weak and societies feel pressured, however, does not mean that there will not be a plethora of opportunities for NZ businesses in many sectors. It's all about finding the niches.

Third, we must expect volatility in many asset markets. By pumping out liquidity central banks are pushing people to seek yield beyond government bonds.

That means buying far flung currencies like the Kiwi, buying commodity futures, buying shares, and in the New Zealand case buying houses with a shortage used as rationale. These next few years are going to be very bumpy because of this extraordinary period of money printing.

Investors should therefore give extraordinarily deep thought to whether they understand the factors driving prices of some assets upward, and whether they can really afford to take on the risk they need to in order to pick up an extra 1 per cent or so yield on their assets.

My message is that just as the 2000s were driven by excessive private sector credit creation, don't be surprised if a lot which happens in the next ten years is driven by excessive central bank credit creation.

Tony Alexander is the chief economist for the Bank of New Zealand.

- © Fairfax NZ News

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