zealand dollar price of things which could be exported, such as milk and meat, because the prices of goods of this kind are also directly affected by the depreciation of the exchange rate. ) these price rises will not happen instantaneously, particularly where importers and exporters have covered their foreign exchange risk in the forward market. to the extent that that has happened, it will take a little while for the new zealand dollar prices of imports and exports to go up. but go up they certainly will. ( not all of those price increases will reach consumers in full, however, if some of the price increases are absorbed out of the margins of foreign exporters or local importers and distributors. moreover, a decline in the quality of some goods, difficult to measure accurately in the cpi, may also mask effective price rises. ) the effect of these relative price changes - where the prices of imports, import substitutes, and exportable goods and services go up relative to the prices of things which can only be traded within the new zealand economy - will be to increase the income of those of us producing goods and services which are exportable, or which compete with imports, relative to the rest of us. and in that sense the lower exchange rate can be seen as a healthy development. it is the floating exchange rate at work, encouraging the production of goods and services which will reduce our balance of payments deficit and discouraging the consumption of goods and services which are imported or could be exported. to the extent that the low exchange rate persists, and is not negated by higher domestic inflation, this is likely to see stronger growth in exports of goods and services, slower growth in imports of goods and services, and a reduction in new zealand ’ s balance of payments deficit on current account. and happily, unlike many of the countries which saw bank and corporate balance sheets devastated when their exchange rates fell sharply during 1997 - 98, the fall in the new zealand dollar has had only minimal effect on bank and corporate balance sheets here. yes, there are a few companies which wish they had not taken out so much forward cover on their export receipts when the exchange rate was higher. but these contracts represent “ profits foregone ”, not the kind of disasters which wiped out so many banks and corporates in indonesia and thailand when their exchange rates fell. and the reason for this is that, perhaps because new zealand has had a freely floating exchange rate for more than 15 years now, banks and corporates

in new zealand tend not to borrow overseas in foreign currency without hedging the exchange rate risk. indeed, at the end of march last, the government statistician estimates that some 97 per cent of all overseas liabilities owed by banks and corporates in new zealand were “ hedged ”, roughly one - third of it through some kind of natural hedge and the balance hedged through financial markets. so there appears to be little risk of the depreciation in the new zealand dollar having any significant adverse impact on the financial strength of the new zealand financial system or corporate sector, and of course the new zealand government now has no net foreign - currency - denominated liabilities at all. but there is one important caveat to this positive story. a currency depreciation does not make the country better off, at least in the short term : it simply redistributes income, or at least the purchasing power of income, from some new zealanders to other new zealanders. some of us are made better off by the depreciation ; some of us are made worse off. but if those of us who are made worse off by the depreciation - those of us, in other words, who face higher prices for petrol, and milk, and meat, and clothing, and tv sets, and cars but get no “ offset ” through producing higher - priced exports or import - substitutes - fight hard to retain our real income, by pushing up our prices, fees, wages, and salaries, then of course the whole process becomes much more painful. and this is where the reserve bank is relevant. as i said in a speech in kapiti early in august, the bank may be able to ignore the initial, direct, impact of a fall in the exchange rate on prices, but our ability to do that “ depends on whether we new zealanders accept that the direct price effects of exchange rate depreciation are not matters which justify our seeking compensation through higher incomes. if we collectively seek such compensation, then the bank is faced not with a one - off price level adjustment but with the potential for ongoing upwards pressure on prices. ” and that not only has the potential to produce ongoing inflation, but at least for a time may frustrate the very shift in relative incomes and prices which is required to reduce the current account deficit, and which the depreciation would otherwise produce. if the bank were obliged to tighten monetary policy because of ongoing upwards pressure on