What is behind the business confidence slump in NZ?

The latest national and central business surveys have shown business confidence slumping further into negative territory with figures now showing confidence is at its lowest levels since the global financial crisis.

A fall in business confidence doesn’t necessarily point to an imminent economic downturn, however as confidence continues to trend lower over time, especially when business owners view their own prospects negatively is cause for concern.

What is business confidence anyway?

Business confidence is used as a leading indicator of future economic developments across different industry sectors. It is employed as a means of tracking output growth and to anticipate any turning point in the economy.

In New Zealand there are two major, nationwide business confidence surveys:

1. The quarterly NZIER survey of business opinion. This is the largest business survey, asking around 4300 businesses about how they view their current performance, their expectations for the future, whether they are expecting to hire more staff, and whether they experiencing any price pressures.

2. The monthly ANZ business outlook survey gets a lot of attention because of its frequency. However it is smaller, with 1500–2000 firms approached for comment. It is an opt-in survey and ANZ does not describe how they choose the businesses that form part of the survey.

While business confidence surveys are open to a lot of criticism for being biased or poorly designed they are still an important source of economic information that is not measured by any other aggregate indicator of the economy. Yes, they essentially provide an unscientific “gut-feel” from often self-selected respondents (in the case of the ANZ survey at least). However, they are still regarded as a reasonable estimate of “sentiment” in the aggregate.

Does a change to a Labour-led government affect business confidence?

There has been a lot of talk recently about the inherent political bias in business confidence surveys, and how labour-led governments can make businesses feel less confident in the economy. Certainly changes in government of any sort can cause uncertainty as financial markets and business and agricultural sectors wait to see how the election promises play out in terms of new policy. Business surveys do show a correlation between a drop in confidence and the election of the new Labour Government, but at mid-term this current government is no longer “new” and its policies have been well signalled, yet business confidence continues to fall.

It should be noted that there are some long term issues at play that have existed before the election of the latest government. For instance:

- We have reached “peak dairy” and farmers have felt under siege regarding environmental concerns

- The rampant growth in house prices, particularly in Auckland, has now slumped to a crawl and in some cases slipped into negative levels.

- In the construction sector, shortages of skilled staff and materials has resulted in enormous price pressures.

- Similarly, in the booming tourism sector, staff and accommodation shortages have been causing operators headaches for a few years.

When businesses are simply asked how they expect the overall New Zealand economy to perform in the coming year there is strong evidence that confidence tends to be much stronger under a National, rather than Labour government regardless of how the economy is actually performing. However what has many people rattled is that this time other measures such as how businesses expect their own business to perform, or whether they are planning to hire new staff or invest in new plant or property is also negative. These later measures are seen as a much better indication of how the economy will actually perform.

Why is business being so negative?

While we know the global outlook is weak, falling confidence is seen as being more closely linked to domestic matters. It does not seem to be related to a lack of demand for goods and services, but rather to severe capacity constraints. This is worrying as because of our small size these are not things that can be easily fixed.

Capacity constraints are factors that prevent businesses from producing more output. For instance the construction sector has been going through a period of strong demand due to a growing population base and expanding tourism activity. Yet the sector is struggling with low operating margins, labour shortages and many mid-size companies face ongoing cash-flow issues.

In a number of industries, rising input costs have not been, or cannot be, passed on to end-purchasers which is putting significant pressure on already slim profit margins.

How will it be resolved?

While there are many unknowns, in the meantime the Reserve Bank is taking measures to ease business concerns. While it left the Official Cash Rate (OCR) at 1.5% in June, it has said “a lower OCR may be needed over time”. Just how low will it need to go to encourage businesses to invest is anyone’s guess. At 1.5% the OCR is at its lowest point ever, and there are even suggestions the OCR will be lowered to zero, or even below that over time. All we can say with certainty is we are now in uncharted economic waters.

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