Chapter 1: the Economic Miracle: 1946-1966

A chapter of Globalisation and Welfare State

Keywords: Growth & Innovation; Labour Studies;

For the first two decades after the Second World War the performance of the New Zealand economy seemed miraculous. Growth of real GDP exceeded 4 percent a year, consumer inflation was less that the average for other rich countries, there were strains in the balance of payments but no major crisis, (1) and unemployment was hardly reported at all (2)

Any brief statistical summary is bound to be misleading. Per capita economic growth was high, but less than the rich country average, although this could be explained by those ravaged by war recovering, by measurement errors, and by New Zealand’s above average population growth. If consumer inflation was below the average it was still averaged over 7 percent a year in a highly inflationary world. The balance of payments involved deficits and overseas borrowings in most years, while imports were restricted by quantitative controls, tariffs, foreign exchange controls, and other mechanisms (although, as we shall see, some argue this was the reason for the miracle). And while registered unemployment was low, actual rates were somewhat higher, a situation which is examined in greater detail below.

Even so, its economic performance was superior to that of any other period of New Zealand economic history before or since (with the probable exception of the immediately preceding decade from 1935), and to that of most other rich countries at any other time in their histories. Economist Wolfgang Rosenberg was able to write a book in 1960 titled Full Employment: Can New Zealand’s Economic Miracle Last? Underlying his question was how could a capitalist market economy thrive when there was so little unemployment? The answer – in part – turns out to depend upon what is meant by `full employment’.

Full Employment (3)

Once – it was said – the Minister of Labour personally knew the names of every unemployed New Zealander – both of them. It was an exaggeration. For most of the early 1950s there were about 50 registered with the Department of Labour as unemployed. It is true that in March 1952 there were only 2 who were on the unemployment benefit, so the joke might have applied to the Minister of Social Security. Exaggeration or not, the numbers of observed unemployed were small.

This was partly because many New Zealanders chose not to report to the relevant government agencies that they were unemployed. In March 1951, 12 were registered as unemployed, of whom 10 were receiving unemployment benefits. But in the March 1951 census 9628 said they were unemployed – without work but seeking it – equivalent to 1.3 percent of the labour force. (4) The most common reason for not reporting such unemployment to government departments was that the unemployed soon expected to get a job, and the authorities could not offer significant assistance. In those days the labour market was favourable towards the workers. Vacancies were common – in April 1951 surveyed employers reported 32,796 vacancies – and the workforce was growing by an average of about 1.6 percent a year at that time, more than the unemployment rate. (5)

Thus there was unemployment in the 1950s, but it was not stressful unemployment. The worker who became redundant – either voluntarily or through dismissal – knew he (or she) could soon obtain another job. It is this feature of non-stressful unemployment – not the numbers who were unemployed (however measured) which determined the `full employment’ of the economic miracle.

We sometimes talk about the `pool of unemployment’. A pool of water can have very different ecological characteristics depending upon whether water is flowing rapidly in or out of it, in which case it is fresh, or whether the water in it stagnates, in which case there is likely to be eutrophication, and a stink. Similarly it matters very much whether the pool of unemployed involves people entering it and quickly leaving it, or whether they hang around in the state of unemployment for a long time. Just as biologically characterizing a pool of water by its size is not very useful, socially the number of unemployed tell us little. We really need to know how long the individuals in it are waiting to get a job, or some other measure of stagnation. Unfortunately it is easier to measure the numbers, and so typically that is all we have – especially for long run comparisons. (Defining who is in the pool is also fraught with difficulties, as the appendix explains.) Yet if we are interested in labour market stress, it is waiting times rather than numbers which are probably more relevant.

Unfortunately we no not even have a lot of direct information on levels of unemployment over most of the postwar era, and we have to infer indirectly. Braae and Gallacher (1983) estimate that unemployment measured on a census definition rarely rose above 3 percent before 1978, although registered unemployment and numbers on benefits were markedly below 1 percent of the labour force, until after 1967. That there was a net outflow of migrants in the late 1960s also indicates that labour market stress levels began to rise then. If so, these indicators – lower reported unemployed and migration inflow – suggest that labour market stress levels probably fell again in the early 1970s, and began to rise permanently after 1977. Full employment, in the sense that Rosenberg was using the term, ended somewhere between 1966 and 1978.

If up till 1966 (or perhaps a little later) the labour market was not stressful to the unemployed worker, what did it mean for the employer? There are a number of issues here, but to look at the two most important.

First, there is a view that significant unemployment is necessary to maintain discipline in the workforce. Workers perform according to the needs of their jobs, so the argument goes, because of the threat of dismissal with the possibility of the stress of being unemployed. Without such a sanction workers will be poorly disciplined and lazy, and work practices and productivity will suffer. This is not a lot of systematic evidence to support this theory. Certainly there is a mountain of anecdote about lazy or inefficient workers, but there is another mountain of the same people working hard when required. Statistically, productivity increased at roughly the rich country rate, and there is no evidence of there being an increase when unemployment levels (and hence the penalty of dismissal) rose. (7)

The account of the need for stressful unemployment to maintain industrial discipline is based upon a narrow view, albeit a central tenant of much economics, that workers dislike their job, only doing it in return for payment, and ultimately being ready to subvert the industrial process. In fact workers generally like their job, like doing it well, and obtain rewards from it other than remuneration. This means workers can be very supportive of meaningful industrial work (especially that not backed by effective dismissal), and may work more effectively without onerous sanctions. Such an environment would be supported by an industrial structure in which many workers were self employed, most were in small establishments often run on a paternalistic family basis, and a large portion of the workforce was employed by the government who would claim higher objectives than just profit.

A second general concern of a full employed economy was there should be a propensity for inflation – persistent rises in the level of prices. This is usually formalized in the `Phillips curve’, discovered by a New Zealand economist Bill Phillips. The relationship claims that the lower the unemployment the greater the wage increases. It is not hard to the relationship by expecting that when there is a shortage of labour, employers raise wages (perhaps under union pressure) in order to retain workers. There is a substantial international literature on the Phillips curve, and much controversy as to its existence and effectiveness. There are also some attempts to derive one for New Zealand, although the task is limited by the shortage of good quality unemployment (and wage) data. (7)

For our purposes we merely note that the New Zealand inflation rate was not markedly higher – and probably a little below – that of the average of other rich countries up to the mid 1960s. Since the Phillips curve theory predicts that an economy with full employment ought to inflate faster than those economies with more unemployment, we are left with the conclusion that in the New Zealand case either the theory does not apply, or that there was some other process which dominated the Phillips curve process during the period. A candidate for such a process would be the way that wages were set through the arbitration court, compounded with extensive price controls, and a relatively relaxed industrial scene.

In summary the miracle of the New Zealand economy was that for the first two postwar decades it experienced full employment – non-stressful unemployment – and yet performed more than adequately in terms of its growth, inflation, and balance of payments record too.

How the Miracle?

There have been two broad schools in respect to the economic performance over the first decades of the postwar era. The first, that of the political right, argues that the highly interventionist policies were wrong and were bound to break down, as they did from the late 1960s. If, they might argue, more market policies had been used earlier, the economy would have grown faster than it did, with less inflation. This is not a well promoted case, for the adherents of this view would rather forget the period because it is so inconsistent with the models they use to evaluate the world. However when their policies were implemented, the economic performance deteriorated. After a long transition, today the New Zealand economy struggles at below 3 percent p.a. trend volume GDP growth, and the floor for unemployment rate appears to be above 6 percent. Admittedly there has been no balance of payments crisis (yet), and trend consumer inflation is below the rich country average at about 2 percent a year.

The traditional views of the political left cannot be so easily dismissed. They argue that the interventions of the period were effective, and the abandonment of those interventions – especially import controls – resulted in the subsequent poorer performance. While superficially attractive – with a tempting policy prescription of reimposing the interventions to obtain better performance – the approach is as that of the right wing. Both assume that the central feature of the period was the policies pursued at the time. Each is thus ahistorical, in that the economic circumstances of the two decades were the same as today, and indeed any other period of history (or perhaps only those of capitalist market economies). It is not enough to say because a particular period was an economic success, the economic policies of the period were the cause of the success. It is also necessary to show how the policies contributed to any success.

In fact the traditional left account offers little analytical detail as to how the policies worked. It is not this study’s task to try to fill their lacuna. Rather we set down here a brief account of why the economy worked reasonably well at that time.

Until the mid 1960s, the postwar New Zealand economy was characterized by an export sector, consisting almost entirely pastoral products, which earned foreign exchange which was largely used to supply imports for the domestic sector which was protected from competing imports by quantitative import controls and other measures. As well as the requirement that the administrative measures could not be avoided, the mechanism could only work if the pastoral sector could transfer its foreign exchange earnings without compromising its economic performance. For instance if a measure’s effect was that the export sector markedly reduced its output, then there would be less foreign exchange and imports for the domestic sector, which would also have its growth inhibited. Thus economic performance would suffer.

The trick then of the early postwar years was that the protection measures were enforceable and they operated without seriously harming the export sector. This was possible because the prices obtained by pastoral exports (relative to the prices of imports – known as the `terms of trade’) were high. Because the exporters were land based, the high prices generated high prices for land – in economic terms `land rents’. This enabled full employment by three mechanisms.

* Protection (most evidently import controls, but also tariffs and other internal interventions) had the effect of transferring some of the foreign exchange attributable to the land rents to the economy as a whole. This was used to fund various domestic activities which were more labour intensive that farming. The most notable was manufacturing based on imports which were further transformed in New Zealand. But it also included various service sectors – such as transport and communications – which absorbed labour to a much higher degree had there been no domestic protection (and government subsidies – the next point);

* The taxation system was used to subsidize jobs in the government sector which would not have been provided under a less intervened, more competitive, taunter, economic system (as was entered into from the mid 1980s). This included jobs in the railways, the post office, and forestry, as well as in the government bureaucracy. The system was flexible enough to enable the creation of jobs in particular regions, where unemployment was potentially high. Housing construction was also fostered (via low interest directed loans) to generate jobs, as was other construction programs (e.g. roads);

* Aggregate demand was maintained at high levels, which created more jobs. This was possible because import controls conserved scarce foreign exchange (also supplemented by overseas borrowing), while inflation was prevented by price controls, subsides, and a wage mechanism based on an arbitration court.

Thus the early post war years were a period of solid economic growth, full employment, without excessive inflation or balance of payments crises. Note that two other effects reinforced the success. First, much of the revenue transfer was used to support activities which beneficial in economic terms – such as industry which reaped economies of scale, and investment in physical and social infrastructure – which further enhanced the economic performance, as well as social welfare and job creation. Second, the revenue transfers were also used to provide benefits for social security beneficiaries and to fund education and health services. This spending added to aggregate demand and stimulated domestic investment. but it also gave New Zealanders some sort of commitment to their society, a belief that it was working for them, just as they were working for it.

The economic analysis here is subtle, if orthodox, and the reader who wants to follow its details is referred to more elaborate accounts. (8) Note the strategy could only work as long as relative pastoral prices (the terms of trade) were high, so that there was a significant land rents which could be appropriated one way or another from the land owners to be used for social purposes, and sufficient foreign exchange to fund the imports required for jobs in New Zealand and for New Zealander’s consumption and investment which used imports. Thus when export prices (the terms of trade) fell, as they did substantially in the late 1960s, the land rents were no longer there to be transferred, and the protection and other intervention mechanisms began to fail, evident in the high inflation in the 1970s and early 1980s.

We tell that story, and that of the successful diversification, in chapter 3. This chapter has established that there were special circumstances which generated the economic miracle – circumstances which no longer apply. It is in these halcyon days when the New Zealand welfare state developed the approach described in the next chapter.

Next Chapter Ch.2: Welfare Based on Categories

1. Of course there were crises which seemed large at the time, but in retrospect they were not, and they were handled with little economic and social pain.
2. Details are in B.H. Easton, In Stormy Seas (1997). Throughout this study, “rich countries” refer to the traditional members of the OECD.
3. Unless otherwise stated, the data from this section comes from various standard official sources such as the New Zealand Official Year Book, Monthly Abstract of Statistics, and the Labour and Employment Gazette. See also B.H. Easton Social Policy and the Welfare State (1980).
4. This includes those unemployed as a result of the waterfront industrial dispute.
5. “Workforce” is not a formal term in economic statistics. It is used here to cover that part of the labour force which is employed.
6. B.H. Easton, In Stormy Seas, Chapter 6 (1997). For an update see Easton “What Were the Economic Effects of the Employment Contracts Act?” (1997) The data base comes from the Research Project on Economic Planning. The author is grateful for Bryan Philpott making it available.
7. V.B. Hall, “Simultaneous Equation Wage Determination in New Zealand”, New Zealand Economic Papers, Vol 6, 1972, p..29-51.
8. e.g. B.H. Easton, In Stormy Seas (1997). An earlier version will be found in Elkan (1976).