Wallace, L.T & R. Lattimore (eds) (1987) Rural New Zealand~ What Next? Agribusiness & Economics Research Unit, Lincoln College, Discussion Paper 109.
Arguably, agriculture has been the single most important factor in shaping New Zealand’s economy. Yet the intricacies of its influence on the macroeconomy have not been fully explored.
Agriculture in New Zealand covers arable and pastoral farming plus horticulture. Its scope could be extended to include silviculture and parts of hunting, fish farming, and tourism, since farmers are also involved in those areas.
When considering agriculture in the macroeconomy one should include those industries which supply farmers or process farm production. Indeed there are some industries, producing fertiliser, agriculture and livestock chemicals, farm equipment manufacturers, together with stock and station agents, which exist almost solely to provide farm inputs. Similarly meat and dairy processing and some parts of the textile industries exist only to process farm raw materials. Many industries are substantially dependent upon the farm sector (Guthrie & Lattimore, 1984).
This wider definition of agriculture explains why the industry is so important, despite its apparent small proportion of total national output. According to the Government statistician the net output of the agricultural market production group (sometimes called the “farming sector”) was 7.4 percent of Gross Domestic Product (GDP) at market prices in 1984/85. The food, beverages, and tobacco manufacturing group net output was another 6.9 percent.
The employment generation of the agricultural sector may be gauged from Table 1. Column I shows the direct employment in the agricultural sector as 117.8 thousand in 1986/87, or about 9 percent of the New Zealand labour force.
Table 1: Direct and Indirect Employment Generation, Agricultural Sector [not shown here] Source: Butcher (1985)
In addition there are jobs created by the initial purchase of farm inputs and family spending, plus the further rounds of purchases and spending thus generated. The employment multipliers associated with these backward linkages are shown in Column 2. Column 3 shows that including the backward linkages, the agricultural sector covers 348,000 jobs or about 28 percent of the of the labour force.
Butcher also estimates multipliers for the forward linkages for dairying, meat and some wool processing. When these are included (Table I, columns 4 and 5) they give a sector total of around 571,000 jobs or 46 percent of the nation’s labour force.
Table 2shows that, in the year ending June 1985, 57 percent of exports of goods and services came from categories readily identified with the agricultural sector. This excludes chemicals generated from the agricultural sector (e.g. casein), farm equipment and farm services (e.g. consulting, software) which would raise the true proportion to about 60 percent.
Table 2: Exports in Year Ended June 1985 [not shown here] Source: NZ70B, 1986
There is a danger here, of under emphasising the contribution of import substitution relative to that of exporting. Given that, broadly, the same quantity of resources is used for each dollar produced, then each is equally valuable to the economy. And since the agricultural sector also produces domestically-used products, it is an-import substitutor.
As foreign exchange is concerned, possibly the appropriate measure is the net foreign exchange earning of the sector. This has not been measured with precision but, noting that the share of the sector in employment creation (and probably economic activity) is slightly smaller
than its share in exporting, it seems likely that the whole sector is-a small net foreign exchange generator.
Guthrie and Lattimore (1984) provide some assessment of the changing significance of the sector. They identify a group of agricultural sector industries, and calculate their economy-wide share of net output, employment and exports for the four selected years (Table 3).
Table 3: The Agricultural Sector over time: Shares in Total Economy (percent) [Not shown here] Source: Guthrie and Lattimore (1984)
The agricultural sector’s share of economic activity has decreased, as other sectors (such as forestry, fishing, manufactured exporting, and tourism) have expanded. Nevertheless it still remains the largest sector in the economy.
Agriculture in the World Economy
The agricultural sector is intimately involved in the world economy, and its activities have dominated the current revenue side of the external activities. Indeed the agricultural sector is one of the main channels through which the world economy affects the New Zealand economy.
Until a few decades ago almost all New Zealand exports were pastoral products in various degrees of processing. Today pastoral exports remain the dominant component of agricultural exports although there has been considerable diversification.
The international agricultural economy is primarily a grain one, with livestock trade at its periphery. Moreover, the Northern Hemisphere livestock industry is primarily grain-fed, contrasting with the grass-fed livestock of New Zealand, Australia and Latin America. Thus the New Zealand pastoral industry is very much on the periphery. However, in international trade of those pastoral products, New Zealand is a major participant for two reasons: first, New Zealand is a substantial producer of dairy products, sheep and cattle meats, and crossbred wool; second, many Northern Hemisphere livestock producers receive considerable protection (most often by means of quotas), so that the international market is small relative to its total production. Ultimately New Zealand is a major supplier to the small international market for most pastoral products.
There is considerable Northern Hemisphere dumping into these markets, and there is a recognition that, as a significant supplier, New Zealand can drive prices against producers. (The recent decision by the New Zealand Dairy Board to restrict entry into dairy farming is symbolic
of this recognition).
The tersm of trade have fallen since the peak in the early 1950s (Wilson and Easton, 1984). Some people say that the fall only really began in 1966, or began for different products at different times (e.g. dairy products late 1950s, wool 1966, meat mid-1970s). A falling price indicates that the supply of a commodity is growing faster than its demand. The slow growing demand can indicate many things: a low world disposable income, a change in preference, substitution from other products (e.g. margarine, synthetic fibres, white meats).
The Consequences on Farming of Changes in the Terms of Trade
The broad details of the mechanism hy which the pastoral terms of trade affect the sector are known, even though the details are not. It is noticeable that aggregate farm profitahility has been deteriorating at least since the mid- 1960s (O’Dea and Horsfield 1982; Easton, 1983; Grimmond and Kay, 1983), although it was obscured by fluctuations in the terms of trade, by Government subsidisation, and by complex interactions between inflation, land prices and taxation.
The reasons why New Zealand went into a high inflation phase in the
early 1970s are also complex, but one (partial) explanation might be that a fall in the terms of trade involves a change in price relatives and, given the downward tendencies of prices in New Zealand, it is hard to envisage adjustment to an external downward price shock without a considerable rise in the average price level. Once inflation is underway, prices become much less effective signals. A taxation system, such as New Zealand’s where investment income is treated differently if it is a capital gain rather than a nominal return, adds to the turmoil. In such an environment, land prices were rising faster than general prices, even though. farm profitability was falling. Interest rates were also rising. Thus farming appeared to be maintaining profitability if the capital gains on land were included. But such perversity was only possible at the expense of buying land at over-valued prices. Optimism, borrowing on inflated land values and Government subsidisation could put off the day of reckoning, but ultimately (or in New Zealand’s case from 1984) land prices began to fall, and the weak profitability of the farm sector became apparent.
While a closed economy can experience business cycles, it is accepted that the main source of fluctuations in New Zealand is the external sector. In the past, variations in the pastoral prices have been the main external influence, although in recent years the world business cycle’s effect on manufactured exports and the oil shocks have also been important.
Consider a rise in pastoral export prices. This will show through in higher incomes to farmers. There will not be an immediate major supply response, although slaughter rates may rise a little and a second shear introduced, or as when wool was a pound for a pound in 1950, children may collect wool off barbed wire fences. The additional income will be spent generating jobs in the remainder of the agricultural sector. Indeed the multipliers may be higher because the additional spending and easier access to credit generates additional investment. The ensuing taxation may also induce the Government to spend more.
A typical sequence could go something like this. Increased Government spending could lead to a minor ‘boom’ and a desire of people to import items. Increases in imports could, in turn, offset increases in pastoral prices, result in a national credit drain, and thereby reduce the balance of payment surplus. If the Government reaction is to reduce its spending, the economic upswing weakens, the cycle turns downwards, pastoral prices fall. and the entire economy begins to contract. Some of these factors have been evident since 1985.
What is interesting about the New Zealand business cycle is that the upswing and the downswing are usually brief, typically one quarter or at the most, two. While it would be wrong to completely ignore the imports, we are nonetheless, left with the strong impression that the
major determinant of the ability of the New Zealand economy to grow has been the ability of its export sector to generate revenue.
Agriculture and Economic Growth
It is not difficult to see why a healthy external sector should facilitate economic growth. It is at the top of the business cycle that physical and human capital is being most increased, resources redeveloped and management busy. Providing that economic strength is not compromised by a deterioration in the balance of payments and/or inflation the outcome will be to raise the productive capacity of the economy. The longer the period of economic strength the greater will be the ensuing growth.
Thus, as well as directly contributing to economic growth through raising its own productivity. the farm sector acts as a leader inducing productivity growth into the rest of agriculture and therefore in the rest of the economy.
Philpott and Nana (1986) have provided some estimates of the growth performance of the New Zealand economy from 1959/60 to 1983/4 (Table 4). These figures may underestimate the volume of growth of some sectors, particularly the service sector (Easton, 1987). Nevertheless the conclusion is clear-the farm and agricultural processing sectors have among the highest productivity responses to technology of any in the economy. Using a finer breakdown, only electricity (3.6 percent p.a.) and communications (4.4. percent p.a.) show greater improvement.
Table 4: Sectoral Measure of Productivity Performance, 1959/60-1983/84 (Change % p.a.) [not shown here] Source: Philpott and Nana (1986)
The most detailed assessment we have of the future of agriculture in the macroeconomy comes from the National Sectoral Programme of the New Zealand Planning Council which reported six different scenarios for the two years, 1990 and 1995. To reduce the complexity let’s focus on two of them.
The first scenario, called the ‘calibration run’, was made after asking different industry groups what they thought would be significant export performance levels for them. There was sufficient detail in these forecasts to explore policy consequences and it soon became evident that, despite what may be judged as modestly favourable assumptions about the pastoral terms of trade, there was a need for a substantial increase in export subsidies, above the level prevailing in 1981/2, to enable the sectors to attain the export targets.
This was thought unlikely, so a second run called the ‘current policy re-run’ was prepared. This· run assumed export performance was constrained by profitability. Not surprisingly the levels of pastoral exports were now lower than the sectors could achieve; indeed they were forecast as lower than the 1985 levels.
Table 5 summarises the two runs. Under the calibration run the economy grows at 3.4 percent p.a., with an export volume increase of 5.7 percent p.a. Pastoral exports make a very small contribution to this growth (with expectations of a decline in wool exports), although horticulture and agricultural based manufactures are shown as growing quickly. Profitability to attain this goal requires that there be a six percent export subsidy. That an export subsidy is necessary does not imply the forecast is unorthodox. It is well-established that under certain
assumptions, a judicious selection of interventions can increase GDP.
Table 5: The NSP Projections to 1995 [Not shown here] Source: NSP (1986)
The current policy re-run shows a somewhat slower GDP growth of 2.9 percent p.a., and a much slower export volume increase of 2.5 percent p.a. The exportable sector share of the economy diminishes, and pastoral exports decline. The story the run appears to be telling us is that, in order to attain the required profitability without export subsidies, the exportable sector must contract, which might raise overseas prices and perhaps also increase productivity.
These are not projections which will be readily acceptable by all. However, rather than dismissing them, let us consider what might be investigated in the future.
First. researchers already have looked at the significance of introducing modest tariff protection in the current policy re-run. There is not a lot of difference in a non-protection run, if anything pastoral exports are a little lower.
Second, researchers have experimented with an assumption ‘that world market conditions operate in such a way as to raise New Zealand export prices relative to world prices … we assume the increase in export prices applies equally across all export commodities’. Surprisingly the high
export prices run again is not markedly different from the current policy re-run.
Nonetheless it would be worth refining this investigation. The forecasts are telling us that in the early 1980s the pastoral sector was over-extended; that farming was unprofitable without substantial export subsidies; and that a different economic picture with a smaller pastoral sector would have made more money. If the farm base is still too large, farming may be facing a prolonged squeeze, much longer than most observers currently expect.
What we may take from all this is that there is a need to carry out some urgent investigation into these issues. It could be that the problem is in current research estimates, or it could be that the research has picked up a serious underlying weakness in farming’s ability to produce in existing cost, price and technological conditions.
The Future of Agriculture
While the magnitudes which arise out of the National Sectoral forecast may be wrong, the broad directions seem right- agriculture’s share in the macroeconomy will continue to decline, and pastoral farming may contract in absolute terms. However, given the difficulties the industry
is currently experiencing and the likelihood that agricultural subsidies will not be reinstated, perhaps we should not be surprised.
One may even argue that the forecasters were optimistic. They have followed the practice of the last 20 years of forecasting a modest upturn in the pastoral terms of trade which actually have continued to deteriorate.
There is perhaps a strong prospect of a continuing fall, particularly if there is no major reversal in Northern Hemisphere farm protectionism. Within the next decade there may be some moderation in the intervention, including reductions in dumping into third markets.
Nevertheless, world supply of pastoral commodities seems likely to continue to rise faster than world demand (at a given price). As New Zealand is a significant supplier, changes in its supply will affect the world supply schedule and hence the price.
This diminishing share for agriculture will in some ways be to its benefit. Increasingly it will share responsibility for macroeconomic performance and management. For instance, the overall impact of any pastoral terms of trade shock from the Australian and other manufacturing economies and from oil will become more important. While the overall impact of shocks from the external economy may not change much, their immediate effect will be shared with others and as a result, should be spread more evenly through the economy.
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