HICKEY ISSUES WARNING ABOUT ECONOMY

Simply put we are borrowing overseas to pay the interest on the money we have already borrowed New Zealand is going to have to undergo an major change if we are to survive without some major carnage. Here's what Hickey has to say in the Herald

Some facts about our level of indebtedness are needed to convince New Zealanders how serious the situation is. Firstly, Kiwi households are much more indebted than those in the US blamed for the sub-prime debt that triggered the credit crunch.

Our household debt to disposable income ratio has risen to 163 per cent from 110 per cent in the past five years. This is well above the 13 per cent seen in the US.

Our household debt servicing cost to disposable income ratio has risen from 9 to 14.4 per cent 10 years ago. Our debt servicing burden rose above the US' for the first time this year.

New Zealanders borrowed more than $50b extra from foreign banks and investors in the past 30 months through our banks.

The credit crunch has frozen global credit markets, making it difficult for our banks to easily and cheaply roll over that debt every few months. That heavy borrowing was reflected in our high current account deficit and borrowing needed to service that deficit.

For the past five years much of that borrowing was used to pay for imports and to invest mostly in each others houses, pushing up property prices.

But there's been an ominous change in the past year. We have stopped borrowing so much to invest in housing or pay for imports. We are now borrowing to pay the interest on the previous borrowing.

New Zealand's interest payments and dividend payments to the rest of the world accelerated to a record $4.44b in the June quarter. About $2.2b of that was interest payments. Our foreign borrowings rose a further $1.6b in the June quarter.

This means we borrowed more simply to pay the interest on previous debt. This is like using a credit card to pay the interest costs on the mortgage but on a national scale.

And there is only one solution or the consequences will be serious

New Zealand has an atomic bomb of debt which is about to blow up the Kiwi economy for a decade or two. If we are lucky the Reserve Bank and our major banks will manage a controlled explosion that leaves plenty of walking wounded but is not fatal to everyone.

The worst case scenario is an almost complete cessation of new lending. The best case is a sharp reduction in new lending growth spread out over two to three years.

This is where the changes of behaviour have to come in. New Zealanders generally, our politicians specifically and our banking system in particular have to acknowledge a change of behaviour is needed.

Put simply, we need to stop borrowing more overseas as a percentage of GDP and actually reduce it. We must do that because if we don't our creditors will do it for us in a more violent way.

That means not borrowing any more overseas for a decade or so. In real terms that means New Zealanders need to stop spending and borrowing about $1.5b a month or $375 per person.

and Hickey says his calls for some spending curbs are echoed by other economists

Westpac economist Brendan O'Donovan says New Zealand faces a painful adjustment to lower spending whether we like it or not.

"The mechanism for adjustment will be a lower exchange rate, tighter lending standards, and reduced credit creation," he says.

"Possible long-term side effects will be greater banking sector regulation and more stringent capital requirements. This is the long overdue cure to the economic ill of excessive borrowing. Like many cures, it will be painful but ultimately restorative to our long-term health."