Devaluation gives boost to manufacturers

Press, Volume CXV, Issue 33925, 19 August 1975, Page 13

Devaluation gives boost to manufacturers

The devaluation of the New Zealand dollar has short-term and long-term implications. Its beneficial effect on exporters’ incomes will be quickly realised; the longer-term effects may be seen as part of the Government’s strategy for industrial development.

Higher earnings by manufacturing exporters and farmers, our main foreign exchange earning group, is a necessity which is achieved by the devaluation, but they will not be the only ones to benefit.

When the policies which must accompany a devaluation are successfuly implemented. this stimulates all sections of the economy. Whs devalue? The usual reason for devaluation is to make exported goods cheaper to foreign buyers so that more is exported and foreign exchange earnings rise. Devaluation is one of the ways of balancing trade payments when a country is paying more for imports than it receives for exports. New Zealand has adopted this way of eliminating its trade deficit. An increase in the demand for exports and an increase in the demand for comparatively cheaper New Zealandmade substitutes for foreign goods raises employment opportunities. Devaluation can also raise the prices of foreign goods to New Zealand consumers, because the importers have to pav more in New Zealand currency for them. The extent to which devaluation causes more inflation in New Zealand will depend on how much of the higher costs of imported goods is passed on to consumers. New Zealand distributors of foreign goods are constrained in the price that they can charge bv the price consumers are prepared to pay, and by Government controls, so post-devaluation inflation is going to depend on demand, and the effectiveness of controls. The exchcange rate Devaluation raises the price New Zealanders have to pay for a unit of foreign currency. and reduces the price that foreigners pay for SNZI. On August 8 SNZI bought SUSI .2479. but on the day after devaluation it bought 5U51.0606 so New Zealanders now have to pay about 17.5 per cent more for the SUS and other foreign currencies.

Devaluation of the dollar simplv means that a New Zealand housewife wanting to buy a twin-set from Britain now has to pay the Post Office more for the postal note than before, even though the price in Britain has not increased. The Post Office does not make a higher profit because it has to pay more for the pound sterling it buys.

A New Zealand fanner or manufacturing-exporter selling to a British customer now receives more New Zealand dollars for his sales even though their prices on the British market are the same as before devaluation. The Reserve Bank, which acquires the foreign currency from the exporter, does not make a loss because it sells the foreign currency to New Zealand importers for about the price it paid in New Zealand dollars. Because of the change in the exchange rate predevaluation holdings of foreign currency are now worth more in New Zealand currency, and debts are more onerous because more New Zealand currency is required to pay them. More inflation? Most international payments are made by individuals in the course of trade so by looking at these we can see the real effects of a devaluation of the currency which one of them uses. All exporters receive more New Zealand for sales made in a foreign country, and all importers pay more in New Zealand dollars for purchases from foreign countries.

These two facts are the causes of the two types of inflation which can be caused by a unilateral devaluation. Demand inflation results when the increased money income of exporters is spent on goods which are in short supply, because not enough of them are being imported, or because not enough of them are being made in New Zealand Cost inflation is caused by passing on the higher price's in New Zealand dollars which New Zealand distributors have to pay for foreign goods, and by New Zealand producers raising the prices of substitutes for foreign goods. A combination of cost and demand inflation can occur when the employees of big exporters press for higher wages because their firms’ profits have increased. Higher wages contribute to cost inflation, and high wages may cause demand inflation. If New Zealand production costs rise, and exporters then raise their prices to foreign buyers, the priceeffect of devaluation is reduced. The wheel has turned full circle when another devaluation is necessary to balance trade payments. The export market The devaluation of the New Zealand dollar makes our gocds cheaper to a foreign buyer because he has to pay less in his money for anv New Zealand export. How a foreign buyer reacts to the lower cost of

New Zealand goods is a key to the effectiveness of our devaluation. In theory total exports will rise, because, in general, existing buyers buy more goods with the same outlay as before and new buyers appear at the lower price. But this favourable response depends on foreign distributors passing the cost-saving on to consumers, and consumers’ responses to lower prices for New Zealand goods. How much of the price reduction is passed on to consumers depends on the costs which a distributor faces, and his estimate of the way consumers will respond to a lower price. If distributors’ stocks of goods of the sort that are being exported by New Zealand are high 'and slowmoving, he is not likely to be a big buyer in the short-term, even though our prices have been reduced. The devaluation has increased the cost of getting New Zealand products to the main world markets. For instance the higher cost of shipping on foreign vessels will reduce the size of the cost-reduction to foreign buyers if exporters decide to take up the full increase in New Zealand dollar earnings. Terms of trade When the prices that we receive on foreign markets fall in relation to the prices we pay for imports we have to sell more overseas to pay for a constant volume of imports. When this happens the terms-of-trade have turned against us. The prices we receive now for our main exports, farm products, have fallen in absolute terms, and in relation to the prices of imports. At the same time the volume of imports has increased, and farm products are being absorbed by world markets at a slow rate.

Lower prices and the lower volume of farm products have greatly reduced foreign exchange earnings while import payments have inI creased, so we have a growing trade deficit. To bridge the gap between national income and expenditure the Government has borrowed foreign currency so that we can continue to purchase essential goods j from overseas. Food production We might ask ourselves .■why our earnings from 'exports have fallen when it j might, and has been, i expected that the growing world population would '.guarantee good prices and increasing demand for food. I wool, and manufactured goods. The prices of wool and meat products have fallen, but they have been harder to sell. Explanations of this are to be found in the way levels of production, consumers’ incomes and tastes change the patterns of demand and prices for agricultural proI ducts. If we cannot sell more 'overseas simply because the prices foreign buyers have Ito pay for New Zealand goods are higher than they pay for the same goods from another country we must I reduce internal costs or I devalue. Internal costs can be I reduced by improving .efficiency in production or iby reducing the costs of pro-

duction. Both lower the average cost of goods so that they may. be sold at a lower price overseas.

However, the developing and developed countries overseas have adopted a ■ policy aimed at self--sufficiency in food products, I which includes guaranteed i prices to producers, import quotas, and taxes on imports. Foreign countries are, as protective of their farmers las we are of our, so lower . prices in foreign currency for Zealand food "products is unlikely to increase imports by countries pursuing this policy, especially those that have surpluses of their own to dispose of. Foreign demand The demand for New Zealand wool and manufactured goods is determined mainly by relative prices and income levels. If the price of the New Zealand product is more attractive than a competing foreign product, and there is a demand for it overseas, exports will rise. The demands for wool and timber products are sensitive to income levels. If high prices to foreign buyers is the reason for our reduced earnings from trade the devaluation removes this deterrent to buying from us and the volume of exports I will rise. But, if instead, the cause ; lies in reduced purchasing i power in the hands of foreign

consumers, the devaluation will do little to increase our earnings from foreign trade until incomes recover.

Reports of unemployment, the fall in commodity prices and volumes traded, and inflationary reductions in purchasing power favour the view that the cause of our I low export receipts is not ! relatively high export prices, ■ but reduced demand for our [exports, because incomes have fallen. Industrialisation So the reasons for the devaluation must be to reduce imports, encourage local manufacturing, and to increase the pastoral industries’ and exporters’ incomes. Prices and incomes in foreign markets only have to remain steady for this strategy to be effective in reducing imports, increasing manufactured production for local and export markets, and raising farmers’ incomes. The devaluation and existing Government policies could work together to change the structure of the New Zealand economy from its present dependence on agriculture to one which obtains more wealth from manufacturing. The costs and benefits of such a change in the structure of the New Zealand economy is another matter, but it is. not unrelated to the dependence on agriculture and devaluation.