has made many new zealand companies appear very cheap to foreign buyers. but the household demand for credit has substantially exceeded the rise in the bank deposits of new zealanders. as a result, much of the household borrowing has ultimately been financed by banks'borrowing from overseas. new zealand banks now rely more heavily on overseas borrowing than banks in any other developed country - roughly a third of the total assets of the banking system are now funded by borrowing overseas, though not all of this funding is used to make loans to the household sector. or measured another way, of the total increase in banks'balance sheets during the nineties, roughly a third has been financed from offshore. of course, the average borrower isn't even aware of this ( and need not be ) - she goes to the bank on the corner and finances her house without realising from where the funds are sourced. financial intermediaries do their job very well, bringing together domestic borrowers and often - foreign providers of funds. interestingly, individual loan - to - valuation ratios appear to be relatively conservative ( and bank balance sheets are in very good shape in new zealand ), but i wonder how sustainable existing property prices would be if households ever decided to try to adjust their savings patterns, bringing their holdings of assets more into line with the international mainstream - looking to buy more shares, or to invest more in small and medium - sized businesses, for example. think, for example, of a large number of " baby boomers " realising that they really do not have enough income - generating assets to support a good lifestyle in retirement, and foregoing the next move up to a bigger house. in aggregate, the effects could be large. think also of the impact on consumption spending, and the demand facing large parts of the business sector, if the household savings rate were to move back to 10 per cent of disposable income over a relatively short period of time. and of the possible implications then for the quality of bank loan books - built up at times when demand has been strong. we all hope that the imbalances resolve themselves gradually and without undue disruption. and there are some encouraging signs. having run up debt over the 1990s ( in particular ), credit growth rates are now much lower than they were in the mid - 1990s. and the lack of house price inflation in recent years is a salutary reminder of what life should be like in a low inflation environment. perhaps households may be beginning to stand back and

consider their overall balance sheets. this certainly seems to be the sector of the economy that needs to think about how well placed it would be to absorb a shock - a large drop in house prices, the loss of a job, and so on - and indeed the assets required to support a good quality of life in retirement. nonetheless, we cannot be complacent. lending to households continues to grow faster than incomes are rising. and the current account position itself, although improving in the last couple of years, is not overly encouraging given the strength of new zealand's export prices recently and the fact that most commentators, ourselves included, believe that our exchange rate is substantially undervalued. unless the current account deficit stays below around 4 per cent of gdp or we achieve a rather faster rate of economic growth than we have managed in recent decades, the ratio of net foreign capital to gdp will continue to increase from already unusually high levels. resolving imbalances, even " naturally " if borrowers voluntary come to the conclusion that they are over - extended, can be painful, and it seems to be in the nature of life that adjustments of this sort don't always occur easily or smoothly. often they seem to require some sort of external prompt or trigger. browsing in a second - hand bookshop recently, one of my colleagues came across the following salutary observation from a new zealand commentator writing in 1886 : i fear it is of no use writing against excessive borrowing. the disease must run its course and no one will rejoice more than the writer if a certain cure is found for it. there are reckless lenders as well as reckless borrowers and the two must share the difficulties and troubles which may be in store for them in the future. one obvious area of risk is that those who are providing the finance from abroad may reassess their willingness to go on doing so. a sharply increased cost of overseas finance, for example, could dramatically alter the situation facing many new zealand households. the external finance we now use takes a variety of forms : some short - term and some long - term ; some debt and some equity ; some in new zealand dollars and some in foreign currency. the conventional wisdom is that the risk of financial instability tends to increase as the proportion of short - term liabilities increases, as the proportion of debt increases relative to equity, and the greater the proportion of liabilities denominated in foreign currency. of course, these are simple rules of thumb