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The flight of the Kiwi

November 24th, 2004

Tyler Cowen links to Martin Wolf (FT, subscription) on the failure of the radical free-market reforms undertaken by New Zealand from 1984 to the mid-90s. The results are even more striking when you observe that the only sustained period of growth has come after 1999, when the newly-elected Labour government raised the top marginal tax rate, amended the most radical components of the Employment Contracts Act, and undertook some renationalisation. I’ve written about all this many times, for example in this AFR piece and this Victoria economic commentary published in NZ (PDF file).

Cowen considers a couple of possible explanations. The first is that the NZ economy was on the verge of collapse before the reforms in 1984. In fact, while there were plenty of problems, Australia faced equally severe difficulties and did better. The second is that New Zealand suffers from its remote location. As I observed in my economic commentary

If correct, this explanation of the failure of reform would contain a bitter
irony. Few governments have embraced the global free market more eagerly than the New Zealand governments of the 1980s and 1990s, and few have received more praise from the advocates of globalisation. However, sentiment counts for nothing in global markets, whereas the advantages and disadvantages of location seem to be increasingly important[1].

My reading of the New Zealand experience yields two conclusions. First, nothing in microeconomic policy can offset the impact of bad macroeconomic decisions and NZ made these in abundance[2]. Second, the beneficial bits of the reforms were largely or wholly offset by mistakes such as giveaway privatisations, and the adjustment costs caused by what Brian Easton called the market Leninist approach to reform, in which massive reforms were rammed through fast, with any opposition being crushed.

fn1. A further point which I spell out in this piece in Next American City is that, if this explanation is correct, it shouldn’t be. Communication and transport costs have declined drastically. The fact that financial markets and corporate HQs have clustered ever more closely in a few high-cost global cities is evidence that corporate cronyism is trumping economic efficiency.

fn2. Their main architect, Reserve Bank head Don Brash, subsequently went into politics, and is now Leader of the Opposition.

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  1. Uncle Milton
    November 24th, 2004 at 21:34 | #1

    I could point you to any number of New Zealand economists, all of them intelligent people, who will swear on their mother’s grave that the free market reforms worked extremely well and that Helen Clark’s government has been disastrous for the economy.

    When confronted with contrary facts, their argument is always that things would have been worse but for the neo-liberal reforms and things would have been better but for Clark’s policies.

    Since this argument is untestable, it is irrefutable and belief in it can be held by anyone with sufficient faith.

  2. November 24th, 2004 at 23:23 | #2

    Unca Milton said:
    “I could point you to any number of (1)New Zealand (2)economists, (3)all of them (4)intelligent people”

    Please pick any 3 faults above.

  3. still working it out
    November 25th, 2004 at 09:25 | #3

    lol

  4. Bill O’Slatter
    November 25th, 2004 at 10:14 | #4

    “evidence that corporate cronyism is trumping economic efficiency” .Interesting point Quiggers , another way to state this in more objective terms is that the dynamics of organising a corporation involve more centralisation. Whatever the costs of this reorganising is , it is less than the costs of transport and communication. This assumes that these corporations are in fact calclulating these costs. ( A dubious assumption).Organising conspiracies can also be done at a a distance . However there may be something to what you say but where is the proof.i.e. the measures of inefficiency of this centralisation .

  5. November 25th, 2004 at 11:59 | #5

    John,

    I see a problem emerging for free market true believers with case studies such as New Zealand, and Malaysia.

    It seems there is a congruence with communism. The fact that no communist state has been a success has no impact on diehard marxists, because there is always some factor they can point to that prevented ‘true communism’ from flourishing. Or it was the fault of the west. Or Trotsky was right and it could only work if there was worldwide revolution. Etc etc… and they may be right, but if the ideology has no hope of proving effective under real world conditions, isn’t it pretty redundant?

    Secondly, isn’t this:
    “However, sentiment counts for nothing in global markets, whereas the advantages and disadvantages of location seem to be increasingly important.”

    cutting to the heart of comparative advantage? Isn’t it yet more evidence that some countries, contrary to classic comp adv theory, may have a comparative disadvantage in just about everything, and so lose out monstrously in a free global trade environment?

  6. November 25th, 2004 at 12:27 | #6

    I’ve pointed out before, countries don’t eat, people eat. So, when your test is whether countries benefit, you aren’t measuring whether people are suffering or not. When benefits flow to developing countries there is usually a lot of suffering, for the simple reason that they don’t have institutions and time to make sure that nobody gets shoved under, trapped by the rising tide.

  7. derrida derider
    November 25th, 2004 at 14:05 | #7

    Martin, I think you’ve made the classic mistake of confusing comp adv with absolute advantage. It is not possible to have “a comparative disadvantage in just about everything” because the comparison is with the other things you can do, not with the things others can do. And you’ll always do some things better than others.

    Comp adv says you both get a gain from trade by selling what you’re best at and buying what you’re worst at, so long as the pattern of what you’re best and worst at it isn’t exactly the same as the other guy’s. This holds even if your best is worse than the other guy can manage in the same thing (ie he has an absolute advantage in everything).

  8. November 25th, 2004 at 14:54 | #8

    Hiya, I must say I think this aspect in particular:
    This holds even if your best is worse than the other guy can manage in the same thing (ie he has an absolute advantage in everything).

    Is quite counter-logical and utopian. I remain open minded, but this doesn’t seem likely work in the real world. In practice less dominant trading nations seem to often get steamrolled, aka New Zealand, rather than finding a whole bunch of super profitable niches and rocketing onwards and upwards.

    PML- i’d agree, although the country makes a useful reference point, the end result for individuals is the most important measure.

  9. November 25th, 2004 at 18:58 | #9

    Martin Pike, the comparative advantage thing is tautologically true because the terms were defined that way. But, like the idea that “investment” is the balancing amount after production, consumption and a few other things, this only works if you have rather an odd idea of what constitutes investment.

    To an economist, investment isn’t just building for the future, it can include “unintended investment” from having a whole load of stock on your hands you can’t shift. And similarly, countries can have competitive advantages in manufacturing US$ currency, meaning that other countries have their competitive advantage in sending the first countries goods and services in exchange for those. Or a country can have a competitive advantage in “selling the farm”, which is unsustainable in the long term, or in being a quarry which tends to produce the dislocations I mentioned earlier. These only count as benefits to the country if you use the same terminology as competitive advantage uses.

    However competitive advantage doesn’t often lead to these paradoxes, because mostly its definitions are quite realistic. It’s just that you shouldn’t take its predictions as the final answer before making empirical adjustments. For one thing, other things can be going on at the same time, market imperfections that cause harm either overall or in certain hot spots.

    My major concern is those hot spots, partly because of their potential to spread and become a much larger problem.

  10. Jill Rush
    November 25th, 2004 at 22:07 | #10

    New Zealand has a lot of comparative advantages -its friendly people, great scenery and low risk of terrorism have led to a boom in tourism – they are also adaptable and main cities have streets devoted to Japanese tourists.

    The people are more than consumers and have an ability to adopt the latest in technological trends to their advantage. Thus although they are physically isolated they are great travellers and compete in global terms in many fields. Not only that but global warming will have less impact there than in many other places – although the loss of the glaciers will affect tourism.

    NZ is often derided by Australians who have no knowledge of the country or people and like to think that the stereotypes are reality.

    However they have had two women Prime Ministers and have led a host of other socially progressive reforms, and have one of the most harmonious multicultural societies in the world. There are more measures of success than are commonly used in the types of win/lose contests that are so popular with the press.

  11. November 26th, 2004 at 11:07 | #11

    Whatever your views of women breaking through glass ceilings etc. in themselves, or for the women in question or as an example, you really can’t use the presence of women Prime Ministers as a measure of the success of a country. Just look at the countries that had them, and how they fared under them.

  12. November 26th, 2004 at 17:00 | #12

    This is still a learning field for me, so the info and discussion is appreciated.

    I see Australia’s problem being that ‘selling the farm’ is still where our comparative advantage appears to lie. In my industry, law, Australian lawyers are better trained than US or UK lawyers, but those nations’ law firms have dominated the big ticket legal industry, not because of the quality of their lawyers, but because of their dominance of other industries, on the back of which the lawyers ride- for example financial markets.

    Our advantage seems to be in the land, and agriculture, yet our population (including myself)is urban and doesn’t want to work on the land. This sort of ‘choice’ doesn’t seem to be considered to be a rational or reasonable one in comp adv theory.

    However, i’ve taken what you’ve all said into consideration… cheers!

  13. James Farrell
    November 26th, 2004 at 22:34 | #13

    Martin, there is nothing complex, controversial, metaphysical or tautological about comparative advantage. It’s a straightforward and indispensible concept. I don’t think it would be putting it too strongly to say that it’s impossible to think clearly about trade if you don’t understand it. If you didn’t get DD’s explanation above, try an introductory economics textbook. Alternatively, don’t use the term. Just say ‘advantage’ and be content to remain fuzzy about that means.

  14. November 26th, 2004 at 23:02 | #14

    JF, the point I was getting at was that, for instance, a thousand years ago some countries had a competitive advantage in paying Danegeld, others in fighting Danes, yet others in trading with Danes – and the Danes themselves used raid-or-trade variations accordingly.

    All these are adequately described by comparative advantage, but they don’t tell the whole story. And for people who come at these things wanting a non-economic insight, the economics may be relevant but they are fooling themselves if they stop there.

    But I only meant “tautologically true” in the sense of an analogy with the production/consumption/investment/etc. identity, that it comes out in the wash once you are working within the defined area. It won’t if you use concepts that don’t belong.

  15. James Farrell
    November 27th, 2004 at 22:05 | #15

    PML: Your knowledge of Vikings, like your knowledge of canals and the Plantagenet Wars, not to mention the mores of the Yoruba, gives me an inferiority complex. I must confess I have no idea how to explain any of the phenomena you mention in terms of comparative advantage. But I do find that the concept helps explain trade. If you’re saying that politics affect trade too, I’m not inclined to disagree.

    Your last paragraph went over my head. I’d like to know what you meant, but I fear the conversation has by now drifted somewhat from the declared topic of Rogernomics, and to continue discussing it might be an abuse of the Captain’s hospitality.

  16. stephen
    November 28th, 2004 at 19:23 | #16

    a couple of thoughts on the NZ puzzle and comparisons with Australia:

    while agriculture’s share of GDP has declined in both countries, it is still much more important in New Zealand than Australia (some 7% of GDP vs. 3%). In light of the long term decline in agricultural terms of trade – a century long phenomenon – we could expect that the country which was relatively more reliant on agriculture would do relatively worse economically. I wonder also if the figures for NZ are conservative because of their relatively larger number of small rural towns that service and are dependent on agriculture.

    is there a degree to which NZ is averaging out poverty in the South Pacific by having a larger proportion of islanders per head of population employed there than there are in Australia?

    size really does matter. NZ isn’t large enough to have the sorts of cities Richard Florida says attract the best knowledge workers; in many other ways small size is a disadvantage. In fact I’m intending to undertake some work (when I get the time) to try to examine how well the success or failure of micro reforms correlates with country size – from observation, it does seem to work less well the smaller the country concerned

    there is a measurement problem in relation to GDP (in fact I recall a New Zealander, Marilyn Waring, looked at the problem of GDP measurement from a feminist perspective many years ago). to the extent that New Zealand has invested in a relatively unspoilt environment, redistributive social services, disengagement from international conflicts etc., these don’t show up in GDP measures. I accept that GDP is the best international standard we have for making these comparisons, but it may be that NZ has made a conscious political choice to sacrifice some GDP gains? (again, by contrast with Australia).

    agree entirely with John that there is something to the observation that any micro gains may well have been offset by bad macro decisions. The privatisation losses are an interesting point of comparison with Canada – there arguably some of the privatisations (eg of rail) were even more of a long term fiscal loss, but the economic effect does not seem to be the same.

  17. November 28th, 2004 at 21:17 | #17

    Those findings on growth in NZ were anticipated by some unpublished work by the late Collin Simkin. He told me about this in a mischevious tone of voice because he was affiliated with the Centre for Independent Studies (he said he chaired the first seminar convened by Greg Lindsay at the time that Greg was operating out of a filing cabinet in the garage of the parental home). Still the findings are counter-intuitive to an economic rationalist and we need to get clear about what is being measured, how it is measured, and what else is going on to confound the analysis.

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