WAIKATO MANAGEMENT SCHOOL
Department of Economics
2012
ECON200-12A
Macroeconomics and the Global Economy
ANALYSIS PROJECT
Due Date:
12 noon, Monday 4 June 2012
Please:
1. Read the instructions for the project in the Paper Outline.
2. Read the section on Writing Skills and Plagiarism in the Paper Outline.
3. Submit your completed Project Report to the MSC using web submit.
4. Keep a copy of your project in case the original goes astray.
ECON200-12A ANALYSIS PROJECT
Suppose you are an economic consultant with the Reserve Bank of New Zealand (RBNZ). Some NZ
meat exporters are filing complaints with the Ministry of Foreign Affairs and Trade that they are
becoming uncompetitive in the lucrative exports markets of Halal meat in the Gulf area due the
strong Kiwi dollar in the international market. The Ministry has asked the RBNZ to prepare and
submit a report on what has led to the strengthening of the Kiwi dollar and how to quell it. You have
been given responsibility for preparing the report. In particular you have to explain the following
issues:
a) What is the implication of New Zealand’s large and increasing current account deficit on the
Kiwi dollar?
b) Show using appropriate analysis and explanation, what will be the effect of reducing tax on
New Zealand savings deposits. Would you advocate for a policy like this?
c) Suppose the trade unions negotiate a 10 percent increase in wages for all workers in the
meat industry. How will this change affect the Kiwi real exchange rate?
d) If the US investors are less keen on holding New Zealand assets, will that lead to a boost in
New Zealand’s net export?
Further instructions on how to prepare your project report can be found in the ECON200
Paper Outline.
You should analyse each of the scenarios separately in your report.
The analysis in the report must make use of the relevant macroeconomic models developed
in class.
SOLUTION
ECON200-12A ANALYSIS PROJECT
Table of Contents
1. Introduction. 2
2. Economic Analysis. 2
Scenario 1. 2
Scenario 2. 3
Scenario 3. 3
Scenario 4. 3
Conclusion. 4
REFERENCES. 4
1. Introduction
The present report analyses impact of four main scenarios related to the current problem of exporters in New Zealand. The main variables taken to study are current account deficit, tax rate, and foreign investment and wage rate. It is analyzed that how these four variables can help in increasing the exports of New Zealand.
2. Economic Analysis
Scenario 1
New Zealand’s large and increasing current account deficit and its impact on Kiwi dollar: The current account shows a statement of trade transaction between two or more countries. It consist all kind of transactions related to trade such as transaction of goods, services, payment and receiving of dividends and interests. The current account deficit means the spending is more than the earnings. In other words, imports are more than the exports. To fill the gap of spending and earnings or current account deficit the government borrows funds from other countries. That means the country needs more foreign currency because it is not getting enough foreign currency from its exports to pay for its imports. This excess demand of foreign currency leads to depreciation in domestic currency value.
Thus a large and increasing current account deficit requires large borrowings from other countries that eventually results in decreasing value of domestic currency or home currency depreciation. Hence it can be stated that New Zealand’ s large and increasing current account deficit will result in depreciation of Kiwi dollar which is New Zealand’s currency. There is a strong relationship between current account deficit and the foreign exchange rate [(Sarcinell (1982), Khan ve Knight (1983),Howard (1989)]
Scenario 2
Effect of reducing tax on New Zealand savings deposits :- Though there is no direct effect of taxation policy and saving on the exchange rate, but it affects exchange rate indirectly that is by affecting interest rate. As the interest rates and exchange rates are very much correlated to each other, reduced taxation will affect the exchange rate. If the New Zealand government reduces taxes then savings will increase. Due to increased savings interest rate will go down and then decreased interest rates will decrease the foreign capital in the country. Due to decreasing supply of foreign currency the exchange rate will do down. That is domestic currency will become weaker in the international market. Thus in New Zealand the problem exporters are facing is due to strong Kiwi dollar in the international market; hence reduction in taxation will increase the saving and eventually increase in interest rates will lead depreciation in the foreign currency.
Scenario 3
Effect of a 10 percent increase in wages for all workers in the meat industry on the Kiwi real exchange rate : The increase in wages for all workers in the meat industry will increase the prices of meat. This increase in price will increase the inflation rate resulting in decrease in real exchange rate. Thus it will make the conditions worst. The New Zealand exporters already facing losses due to strong Kiwi Dollar and again increase in prices of meat will reduce their competitiveness. The impact will be positive when nominal exchange rate is depreciated (Mishra, 2007).
Scenario 4
If the US investors are less keen on holding New Zealand assets then its impact New Zealand’s net export : If the US investors are reluctant to invest in New Zealand’s assets then the flow of foreign currency in New Zealand will decrease. The supply of domestic currency will be higher than the supply of foreign currency. When there is shortage of foreign currency to pay for imports, the demand for foreign currency will increase. This rising demand of foreign currency will increase the value of foreign currency against the domestic currency. That is depreciation in the domestic currency value of appreciation of exchange rate. Thus if the US investors are not demanding or less demanding the New Zealand currency it will decrease the demand of New Zealand ‘s currency resulting in currency depreciation.
Conclusion
Thus as discussed above as an economic consultant to with the Reserve Bank of New Zealand (RBNZ), I have analyzed four major scenarios. The first is impact of increasing current account deficit on the exchange rate. It was seen that when current account deficit is large, the New Zealand government will have to borrow from the foreign governments, which increases the supply of foreign currency resulting in depreciation of New Zealand’s currency. The depreciation in Kiwi dollar will make meat exporters competitive in the international market. Second scenario is impact of reducing tax rate on saving. The saving will increase if the tax rate is lower. Due to increased savings interest rate will go down, and then foreign investors will be reluctant to invest in New Zealand. It will reduce the flow of foreign capital resulting in depreciation of domestic currency. The scenario, if the wages of meat workers increases by 10% it will make the exporters less competitive in the international market. The fourth scenario, if US investors are not willing to invest in New Zealand it will reduce the value of Kiwi dollar which is a favorable to the exporters.
REFERENCES
Khan, M.S. and Knight, M.D. Determinants of Current Account Balances of Non-Oil Developing Countries in the 1970s, IMF Staff Papers, Vol.4, No. 30, 1983, pp. 819– 842
Sarcinell, I.M. Current Account Deficit, Foreign Borrowing and Monetary Policy: The Italian Experience, Banca Nazionale del Lavoro-Quarterly Review, No. 141, 1982, pp. 147– 160
Howard, D.H. Implications of the U.S. Current Account Deficit, Journal of Economic
Perspectives, Vol. III, issue 4, 1989, pp. 65–153
Mishra, Prachi, 2007, “Emigration and Wages in Source Countries: Evidence from Mexico,”
Journal of Development Economics, Vol. 82, pp. 180–99.
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