TCH: New Zealand's Long Depression

???????????The economic fate of Argentina, a foodstuff exporter supporting one of the richest populations just over a century ago, is well known. New Zealand’s late 19th and early 20th century history is similar in many respects. Like Argentina, faraway New Zealand was also exposed to the dramatic fluctuations of commodity prices and financial conditions intrinsic in these facets of economic life. Like Argentina, late 19th century New Zealand had a propensity for extraordinary borrowing from more developed financial markets, especially those in Britain. However, much of this borrowing did go towards genuinely productive projects crucial to New Zealand’s future prosperity.

New Zealand

???????????In the 1840s, New Zealand was home to a very small but growing European settlement. Gold mining and the raising of sheep were its most significant economic activities in the middle of the century. These were concentrated on the colony’s South Island, which would remain its center of economic activity through the 19th century. In the late 1860s though, New Zealand was in an economic rut driven by waning gold production and low prices for wool. As it happens, this did not cause a terminal decline but was succeeded by years of tremendous growth and prosperity.

Boom

???????????Julius Vogel, one of the most significant figures in New Zealand’s history, was central to this change in fortune. Vogel was an entrepreneur and colonial treasurer who served as the colony’s premier during the 1870s. He embarked on a ￡10 million public borrowing program that invested in infrastructure like railways as well as land development. Vogel’s policies also promoted immigration; during these years some 115,000 came from Europe, most notably Britain but also from Scandinavia and Germany, and another 60,000 arrived from elsewhere, mainly Australia. Under a subsequent government, compulsory schooling was introduced in 1877 and by 1890, New Zealand would have one of the most literate populations in the world.

???????????This program of public works and national improvement was expensive. The government debt quadrupled between 1870 and 1880 when the size of the borrowing was expanded to ￡20 million. Per capita debt was higher in New Zealand than in every Australian colony and four times higher than that in Canada. Besides receiving money by borrowing from abroad, New Zealand was benefiting from other capital inflows amidst an export boom.

???????????Alongside wool, New Zealand exported timber and other commodities to various destinations. Timber went to rapidly growing Australia for example; indeed, New Zealand timber had an important role in building Australian cities like Melbourne. Grain exports rose from just ￡130,000 in 1871 to ￡1.2 million pounds in 1881. While millions of new acres were brought into cultivation, land values still rose. This encouraged landowners to borrow from banks as well as other finance companies, often themselves backed by banks. Several new banks formed during these boom years. This allowed farmers’ indebtedness to grow quickly as many took out loans to buy land and import agricultural machinery from abroad.

???????????Much of this borrowed money was raised in Britain, especially in Scotland, where bonds funding New Zealand projects could yield 5-6%. This money would then be used to make mortgage loans in New Zealand at interest rates of 8-9%. It is easy to see why investors in Britain were willing to fund New Zealand’s borrowing since the yield on safe British assets was a paltry 2-3% at the time. In addition to selling bonds, New Zealand banks accepted British deposits through their London branches.

???????????The borrowing and optimism allowed New Zealand land prices to rise still higher. Wages were also rising since, even with immigration, labor was still in short supply. An unskilled laborer could earn two pounds per week in the colony while working only an eight-hour day, almost twice the going rate in England for a week of ten-hour days. New Zealand may have obtained the highest standard of living of any country in the world in the 1870s, this just a few years after many were concerned with economic decline.

Bust

???????????The export boom also saw the emergence of new shipping companies. One of these, the Union Company, was among the ten largest in the world on the back of a San Francisco – New Zealand route. Prices for exported commodities peaked in 1875 with overproduction coming from even more efficient producers in Canada, the United States, Australia, and Argentina.

???????????The peak did not immediately trigger any panic though. Indeed, land prices kept rising for a few years. The beginning of the end came in the late 1870s. The credit crunch began abroad with the collapse of the City Bank of Glasgow in 1878. Recall that Scotland was a crucial source of capital for New Zealand. The City Bank of Glasgow itself had backed a large land company active in Australia and New Zealand. With this, the London capital markets contracted, reducing credit availability back in New Zealand.

???????????The cycle of higher commodity prices and credit availability supporting national improvements and land prices was now broken. Prices were falling for wool, a key export and central to the livelihood of many in New Zealand. Landowners were overindebted and unable to borrow more. Recall that past borrowing was done at high interest rates when the value of farm output was rising; these interest rates now looked even higher in comparison to falling commodity prices.

???????????Harry Atkinson, the new colonial treasurer, cut government expenses as it could not easily borrow any longer. Also, bankruptcies increased, especially among merchants and among the landowners who purchased land at high prices with borrowed money. It wasn’t only entrepreneurs who were affected. Unemployment increased to at least 10% and the depression years saw deteriorating work conditions in what was perhaps the most prosperous country in the world.

???????????The depression did not let up at all in the 1880s and by the decade’s end New Zealand was being affected by an Australian slump that began in the very late 1880s. The colonies were closely linked, not only because of the trade between them but also because Australian banks, now themselves in trouble, also operated in New Zealand.

???????????The depression reversed virtually all the gains of the boom years. Averaged across the long period from 1873 to 1891, real GDP shrank by about one-half percent per year, a considerable decline when considering the length of this period and that the early part of this era had been quite prosperous. It was a stunning reversal. The downturn even caused some years of net emigration from New Zealand, largely to Australia. Years of economic pain caused losses at banks and their affiliated non-bank pastoral finance companies. In turn, the banks struggled to make payments on the bonds that funded their lending.

Bank of New Zealand

???????????At this time, the Bank of New Zealand was the largest in the country. It had a 50% market share in both retail deposits and lending in the early 1880s and it was now stuck with non-performing loans. The bank had to repossess so much land that it reluctantly became New Zealand’s largest landowner. The Bank of New Zealand tried to hide mounting losses through the 1880s.

???????????When the bank disclosed its losses in 1888, its shareholders’ equity investment was partially written off and fresh shares were issued to raise new funds for the floundering bank. Bad loans were separated from the rest of the bank, placed into a new entity, the Estates Company, and liquidation of these assets began. However, the Bank of New Zealand still had to guarantee the Estates Company’s debts.

???????????For years the bank continued to struggle to meet its obligations. Faced with the threat of a run on the bank, the New Zealand government bailed it out in June 1894 by guaranteeing ￡2 million worth of new debts. It was only the first round of support. The next year, the government invested ￡500,000 in the bank via preferred shares. These were large interventions; the ￡500,000 investment amounted to 11% of government expenditures that year.

???????????Sensibly, the government imposed its requirements. It arranged the takeover by the Bank of New Zealand of another distressed bank, Colonial Bank, also in 1895. Colonial Bank was one of those founded during the boom years. Also, a new Asset Realization Board was established to oversee the liquidation. Ordinary shareholders were required to accept losses on their shares and inject more capital. The government could demand this because shareholders had ‘double liability’, a common condition for bank formation at the time whereby shareholders were liable for twice the value of their investment, rather than the size of their investment alone as under full limited liability regimes.

Recovery

???????????The mid-1890s marked the beginning of a new economic expansion. There were many factors driving this beyond the rescue of the Bank of New Zealand. Wool prices recovered in the 1890s. Also, a new breed of sheep, the Corriedale, was introduced. Corriedale sheep could be raised in wetter climates common in more of the country. However, perhaps the most critical factor was a technological one, refrigeration.

???????????Refrigeration saved New Zealand’s economy by opening the door to frozen meat and dairy exports, previously infeasible. These turned out to be more productive uses of land than raising sheep for wool. Prices for frozen lamb and butter recovered around 1896. Further helping matters were falling shipping costs and rising demand for these products from the working classes of Britain, increasingly more prosperous.

???????????Sheep had to make room for beef and dairy cattle. So, despite the Corriedale, the number of New Zealand sheep per capita fell from nearly 29 to 19 in the thirty years between 1891 and 1921; the number of cattle per capita doubled from 1.3 to 2.6 over the same period.

???????????Export of these new commodities meant rural land prices rebounded. In fact, they doubled between 1895 and 1913. The average land value per acre, at over ￡37, was 132% higher in 1914 than the just over ￡16 of 1890. The cultivated area more than doubled from eight million acres to over fifteen million acres over those same years. Growth continued during the First World War, before the global agricultural depression of the following decade ended this second boom in New Zealand’s economic history. While the amount of cultivated land grew, more productive use meant the average size of a farm shrank. Smaller farms led to more widespread land ownership and common prosperity.

???????????The changes in the agrarian economy also changed industry. Dairy and meat production led to the creation of new industries for off-farm processing of these commodities. While the borrowing of the 1870s could be blamed for contributing to the earlier depression, the growth of these industries relied on the infrastructure built during the years of public-sector borrowing. This infrastructure included 1,100 miles of railways, 2,500 miles of road, 4,000 miles of telegraph lines, and numerous bridges. The early borrowing binge may have actually paved the way for this thirty-year economic boom which continued until the 1920s, albeit with some deleterious effects along the way.

???????????The recovery returned the economy to an enviable position. The Bank of New Zealand recommenced dividends on its ordinary shares in 1902. Through 1933, the government would receive ￡3.5 million in dividends on its shares; not a bad return on its investment. Far more importantly though, the country’s living standards were once again among the highest in the world. New Zealand had a higher GDP per capita in 1900 than either Australia or the United States.

???????????Notwithstanding the recovery of the Bank of New Zealand, the financial system would not return to its old form. Banks and the old form of non-bank finance companies played only a smaller role in agrarian finance now. Filling the gap was direct lending by private individuals, which would make up 54% of mortgage lending in 1901. Further, a new government program, Government Advances for Settlers, was launched in 1894. By 1901, it was responsible for providing one-quarter of mortgage financing in New Zealand. Insurance companies filled the rest of the void left by the withdrawing banks.

Legacy

???????????Despite the changes in finance, at a very general level at least, New Zealand’s economy was not totally transformed by the depression. Though the composition of activity within agriculture and industry had changed, the division between these two types of activities had not. The country’s economy continued to revolve around exports of agrarian commodities, especially land-intensive pastoral products like wool, even if dairy and meat now mattered more as well.

???????????At a high level, manufacturing employment was virtually unchanged in the twenty years starting from 1890, rising only from 19.4% to 19.7% of total employment, even if the fastest growing sectors within industry were meat freezing and dairy processing. The country was still forced to import most manufactured goods since the domestic market remained too small to support industrialization and Australian and American trade policy was very restrictive and subjected imports, like any from New Zealand, to high tariffs.

Lesson

???????????Finance is a sensitive, and often fragile, component of any modern economy. Finance can change much about an economy but not all financial trends last. Financial conditions are not always favorable and neither too are commodity prices. New Zealand was very exposed to both in its late 19th century economic history.

???????????Shocks may arise from home or abroad. Booms give way to busts and reversals in conditions can be stunning in their speed and extent. However, good investments in infrastructure, technology, and human capital can have lasting effect. True, financial stability is important and borrowing recklessly is no doubt a problem. However, it may be foolish to judge the outcome of investments funded by borrowed money, like Julius Vogel’s infrastructure improvements or farmers’ investments in new machinery or livestock, by their immediate effect. No one can always time critical investments perfectly and these were no doubt critical to New Zealand’s continued prosperity in the early 20th century.

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Further Reading

1.?????Brooking, Tom. “Chapter 5 - Boom and Bust, 1860-1890.” The History of New Zealand, Greenwood Press, Westport, CT, 2004, pp. 67–76.

2.?????Easton, Brian. “Boom and Bust, 1870–1895.” Te Ara Encyclopedia of New Zealand – Te Ara Encyclopedia of New Zealand, Ministry for Culture and Heritage Te Manatu Taonga, 11 Mar. 2010, https://teara.govt.nz/en/economic-history/page-5.

3.?????Greasley, David, and Les Oxley. “The Pastoral Boom, the Rural Land Market, and Long Swings in New Zealand Economic Growth, 1873-1939.” The Economic History Review, vol. 62, no. 2, 2009, pp. 324–349.

4.?????Hunt, Chris. “Banking Crises in New Zealand – an Historical Perspective.” Reserve Bank of New Zealand: Bulletin, vol. 72, no. 4, Dec. 2009, pp. 26–41.

5.?????Singleton, John. “An Economic History of New Zealand in the Nineteenth and Twentieth Centuries.” EHnet, Economic History Association, 10 Feb. 2008.