Small open economies and trade: The New Zealand example

By Matt Nolan 12/06/2013


Over on the Herald I saw Bernard Hickey discussing how we have been performing relatively well due to China in recent years (Note, this was also on Rates Blog) – and we have to realise that if something went wrong over there it would hurt us.  Fair point, and one that people should be conscious of given the lack of good information we currently have about China!

I then journeyed down into the comments, where everyone was being civil and discussing the issue.  Very nice.  I noticed a comment by Digby Green:

Well said.

I have noticed that our exports to many other countries have fallen in the last few years.

So “we” need to make sure we do not forget them.

And it reminded me of a neat little thing about being a small open economy with relationships with many many other economies.  We are a “residual claimant” for a “homogenous good” in most of the markets we trade in, and as a result if one country is buying less of our produce we can usually ship somewhere else instead for only a slightly lower price.  What this means is that we produce very little of the world output in many of the things we sell, and the things we sell are pretty “similar” to what is sold overseas.  As a result, we just follow around the world price!

Now this isn’t the case for everything.  NZ wine, and chilled NZ meat, gain significant premiums in some markets – and when demand in those countries cools off, NZ producers have to take quite a price cut to sell them.

However, whenever we jump onto the Statistics New Zealand site and look at the Overseas Merchandise Trade figures, this suggest that we will see the “composition” of our trade (in terms of the countries we sell to) change massively over small periods in time – the best example in the past year was Venezuela, where dairy exports have all but disappeared due to changes in South American production and purchases … but of course, we just sold those dairy products to other countries.  During the drought, farmers destocked by killing livestock – and as a result, meat exports to China have gone up … but this will only be temporary.

In this way, the “amount” we sell overseas isn’t really determined by overseas demand – we are such a small fish we can make as much as we want and sell it!  However, the amount NZ farmers and other exporters for homogenous goods want to produce is determined by the return they get from it!  And this price is determined by demand overseas. This is very different than large economies like China and the United States, and as a result they discuss their trade figures in very different ways than we do over here.

So the lesson is we can sell as much as we make, but whether it is worth making depends on how “scarce” (and as a result how high the price is) overseas.

Note:  Indeed there are exceptions, and the more we specialise into “niche” markets the more this is the case.  But for the majority of New Zealand trade, and given the openness of NZ with the rest of the world, this simple little principle is very powerful.