Strong New Zealand dollar doesn't mean strong New Zealand economy; it just means our interest rates are higher

What we are witnessing is an old fashioned ideological debate, dressed up as economics.

The high dollar and its causes suit people who have a lot of New Zealand-denominated wealth; a lower dollar is better for producers - people who use capital to earn money.

Commentators keep talking of our dollar as if it were some kind of national phallic symbol. They say it is reaching parity with Australia because Australia's economy is terrible and ours is much better. We are much better off here, they claim.

It's true that GDP is growing in New Zealand faster than in Australia, and it is likely to continue to grow a bit faster for a while because we are in different phases of the economic cycle.

Last night I listened to one respected economics writer say Australia isn't used to recessions because they haven't had one since 1991, while New Zealand is 'match fit' because we have been through three since then. The logical conclusion being that recessions are good for us and we should have more.

The claim that the dollar is high because international investors have confidence in New Zealand is a bit too jingoistic to be the whole truth. International investors have noticed they can get much higher interest rates in New Zealand than in Australia - and they are confident that our Reserve Bank won't let our dollar fall, degrading the value of their holding here.

They perceive a 'one-way bet'.

Lots of money is flooding into New Zealand because we are paying these higher interest rates. The high interest rates, in their turn, are caused by our Reserve Bank deliberately holding the official cash rate high to reduce inflation - by which they mean Auckland house prices, because there isn’t inflation anywhere else.

Deflation is the bigger problem in the real economy right now; not always a bad thing of course; The price of ‘tradable goods’ (imports) like clothes, cars, imported food, falls (by 2.3% over the last two years) which is great for consumers, just as the high dollar is good for people heading to the Gold Coast for a holiday.

But we’re in danger of having the worst of all worlds - high interest rates to deal with inflation in one part of the economy (Auckland housing) which is driving up the dollar at the expense of exporters, but deflationary pressures everywhere else, which is putting even more pressure on New Zealand businesses and on people on lower incomes.

If you don’t own a house in Auckland for example, and you’re on a below median wage, your wage hasn’t gone up but your rent has (about 13% in Auckland, more than triple the rate of wage growth, as economist Bernard Hickey has pointed out). Deflation and lower prices, plus the high dollar means companies will look for cheaper ways to make the same products, and that could mean job cuts. And governments struggle to grow their tax revenue when prices stop rising and with it the tax take off GST and corporate tax.

The job of the Reserve Bank is to keep inflation at around 2%, in a range of 1-3%. If it went above 3% all hell would break lose.

But no-one in this government seems worried that the range has been breached at the other end, with an annual inflation rate of about 0.9%. Most other central banks in the world have cut interest rates in response to this kind of deflation.

Bewilderingly, our Reserve Bank is just crossing its fingers deflation doesn’t last. As a result, the New Zealand dollar is much higher than it would be if the Reserve Bank cut interest rates to deal with deflation, as almost all other central banks in the developed world have done this year.

Now, you can make a case that housing inflation in Auckland is caused by a strong economy - but I would simply comment that the same people claiming the dollar is a symbol of economic virility are usually also the same people who claim any inflation is a sign of sickness, not health.

What's really going on is that people who already have a lot of wealth in New Zealand get wealthier when our dollar goes up. People who are trying to generate new wealth by producing stuff, have to pay more to borrow capital to invest in plant, and their prices are less competitive compared to other countries’s prices for the same stuff.

We can debate the merits or otherwise of a high dollar, and the pros and cons of deflation - but we should stop framing parity as a symbol of our economy doing much better than Australia.

The true measure of that is whether we earn more than Australians. At the moment we earn barely two thirds as much as Australians. When we have parity in earning power, then I’ll be the first to pop open the champagne.