Market Economics - Memo

Latest news & views from market economics / December 2012

Christmas Office Closure
Our office will be closed after the 21st December and will re-open on the 7th of January.

Supplier Panels 
M.E is pleased to have been selected for the consultancy supplier panel for Te Puni Kokiri (economic analysis and strategic policy advice) and for the EPA (economic assessments under the EEZ Act and HSNO Act).

Rena Impacts
M.E have been engaged in relation to civil and resource management proceedings arising from the MV Rena grounding.

A Retail Model for Auckland
We have recently developed a retail gravity model for Auckland Council. The model will assist the Council in understanding the implications of changes in retail supply and demand across Auckland’s centres.

Partners Life DUAL Event
M.E staff are training for the DUAL to be held on Motutapu and Rangitoto Islands in March next year. If you’re there, be sure to join us for refreshments in the corporate tent area.


 

Christmas m.emo

As 2012 draws to a close, we at M.E wish you and your family a very Merry Christmas, with a safe, relaxing and prosperous New Year. For many the holiday season is a time for the kiwi road trip, a chance to spend some time on the boat or perhaps do some overseas travel. But whether you are going away or relaxing at home, the Christmas period is also a time of added pressure on the wallet for many. We have put this m.emo together with these thoughts in mind. First up we report on a subsection of the tourism sector – the Cruise Ship Industry. While the economic prospects for the Cruise Industry are bright, our second article, on a future with less oil, is more cautionary and highlights real constraints that society faces. And while the Christmas carols sing of ‘peace on earth’, we discuss economic implications of having a ‘piece of earth’ in our article on whether full cost accounting can measure income inequality.

New Zealand's Cruise Ship Industry

M.E’s recent Economic Impact Assessment (EIA) of the Cruise Ship Industry showed its continued and growing significance to the tourism sector. Different from previous reports, M.E looked at both the national and regional impact of the Cruise Industry. Using Input-Output Analysis we were able to show a significant positive economic impact on employment and GDP across several of New Zealand’s regions.

In the last 16 years the Cruise sector has grown rapidly, with just under 20,000 passengers on 27 cruises in the 1996/97 season to an expected 209,000 on 130 cruises in the 2012/13 season. This will result in a combined 1.65 million port days by passengers and crew. Combined with spend by the cruise ships themselves, this is expected to contribute almost $330 million to GDP nationally (a 13% increase on the previous season) and support 5,600 jobs.

Auckland will be the main benefactor of this activity, with $115 million GDP contribution. The majority of this comes from passenger spend, including all pre- and post-cruise spend. Auckland also benefits from the majority of vessel related expenditure. Three other regions had a contribution to GDP of over $40 million: Wellington ($43m), Otago (43m) and Bay of Plenty ($41m). Canterbury and Hawke’s Bay also had significant contributions with $36m and $23m respectively. Again, passenger spend accounts for the majority of spend in each region.

As New Zealand establishes itself as a valuable cruise destination, we are seeing an increase in not only the number of cruises that come this way during the summer months but also the size of the ships. This trend is not likely to subside any time soon, as future visiting ships are likely to get larger, with some of the latest superships being able to accommodate up to 4,000 passengers. When the Panama Canal upgrade is completed in late 2014, these larger ships will have greater access to this part of the world during the northern hemisphere’s winter season.

With all this information combined, the report was able to show: firstly, the need to ensure New Zealand, and in particular Auckland, has adequate infrastructure to be able to accommodate these ships; secondly, the value this industry has to regions across the country and the importance of making sure these ships can and want to return.

M.E has worked with Cruise New Zealand to produce a biennial study of the economic role of the NZ cruise industry since 1996. 



Tom Worley, 09 915 5532 or tom@me.co.nz

A Future with Less Oil?

What is all this noise about peak oil? The world oil supply capacity cannot increase any further, and even with increased development of deep-sea reserves and heavy tar deposits, net energy supply is likely to begin declining at an accelerated rate in the near future. There are currently no practical alternative technologies or substitute resources that will fill the gap between supply and demand left by declining oil supply. This is because oil is very high in energy and alternatives or substitutes pale in comparison. 

Is oil really that important? Oil is used as an input for manufacturing and it is also used in primary production for everything from fishing to farming and construction. There are currently no substitutes for petroleum products and diesel fuel that can become available to the market at a rate equal to the probable supply decline rate. The largest oil end-use by far is petrol and diesel fuel for private travel and freight movements. The adaptive capacity for personal and freight transport (i.e., the ability to adapt from a dependence on oil) is a function of geography (land use, including the geography of primary production and logistics systems) and available options that use less fuel. 

So how much fuel are we likely to have? An oil supply probability distribution has been developed by analysing a wide range of expert estimates of future conventional oil supply and decline rates. The distribution indicates the probability that a certain oil supply, or more, will be available in a given future year. In the graph below there is a 97% probability that the amount of oil described by the dark blue line will be available, while there is a very small probability (3%) that an amount greater than that described by the pink line will be available. These probability distributions set different ‘risk attitudes’ for approaching long term planning for peak oil. 

What role is there for local government? Peak oil is a risk management issue for central and local government affecting asset management, operations and provision of services. It is in the area of transport fuel use that local government (in particular) can play an active role in facilitating prosperous adaptation. This can be achieved by gathering and disseminating clear information to businesses and households about peak oil, fostering participatory processes to gather and implement suggestions for how less fuel could be used throughout the community, planning for development and redevelopment projects that increase adaptability (i.e., land use and infrastructure changes that increase productivity while fossil fuel use declines), setting priorities and critical timing for decision making, auditing fuel use, and preparing action plans. 

Palmerston North City Council has taken on this challenge and has commissioned Abley Transportation Consultants (Steve Abley), M.E and Dr Susan Krumdieck, a global expert in the study of peak oil and director of Energy Activity Systems Transition Research to deliver a Peak Oil Vulnerability Study. This study is an evidence-based assessment, providing the Council and other stakeholders with information to better anticipate, plan and manage a transition to a less transport energy intensive city. 

How vulnerable is Palmerston North? Palmerston North has a well-defined, reasonably compact central area with 90% of the households located within 5km of the heart of the CBD. The CBD, hospital, University and science centres are key attractors of employment. Industrial and large format retail work places are located on a key arterial (Tremaine Road) and follow the existing rail lines. This layout is well suited to support freight mode shifts from road to rail and the compactness of the residential areas means that walking and cycling trips may effectively substitute for most vehicle driver trips.

The Peak Oil study for Palmerston North City Council reports on three key areas of analysis. The first used an econometric analysis methodology (developed by Griffith University and adapted for use in New Zealand by Abley Transportation Consultants) called the VAMPIRE Index (Vulnerability Assessment for Mortgage, Petroleum and Inflation Risk and Expenses). In this analysis, the relative vulnerability score is calculated for households based on their degree of car dependence, income level and mortgage index. In the map below, the green areas signify less vulnerability to peak oil, while the red areas are more vulnerable. Expressed for the city as a whole, the VAMPIRE Index shows that Palmerston North is less vulnerable to peak oil compared with Porirua and Rotorua, is more vulnerable than New Plymouth and is similar to Dunedin. 

The second key area of analysis relates to travel patterns and behaviour. In terms of reducing peak oil vulnerability, the analysis highlights the importance of retaining a central urban form, encouraging intensification within the core, and discouraging single purpose development in outlying areas. Palmerston North performs well on cycling travel (twice the national average) but performs poorly on walking trips despite approximately 17% of all vehicle drive trips being less than 2km and 78% of all trips being under 5km in length. A comprehensive and valued public transport network and well promoted walking and cycling culture in Palmerston North is therefore fundamental to building the City’s resilience to peak oil and achieving productive adaptation. 

The third key analysis (and a first for New Zealand) looked at the economic ramifications for the local and regional economy of Palmerston North of failing to plan for reduced oil use. Using M.E’s Economic Futures Model and a non-linear optimisation model, future scenarios of ‘no intervention’ (i.e., less fuel consumed but no changes to the economic structure and community behaviour) and ‘with intervention’ (i.e., less fuel consumed but with changes in production methods and management which decouple the trends in economic output growth and fuel consumption) were compared. The results are stark and show that without intervention and adaption, the economy could rapidly decline, with employment, household incomes and Value Added (see graph below) decreasing over time. With intervention and adaption however, the economy in Palmerston North has a positive growth outlook, albeit at a slightly slower growth rate than the theoretical business as usual (BAU) scenario in which there are no peak oil constraints. 

What now for Palmerston North? Palmerston North has started a journey towards peak oil adaptability and resilience by acknowledging and reacting to peak oil. They have adopted a fairly conservative risk attitude – based on the 85% probability curve (refer graph above) – as a basis of their risk management planning. This equates to a 2-3% reduction in fuel supply per annum for the foreseeable future. Put another way, by 2050, the projected level of transport fuel energy use would be equivalent to that used in New Zealand in the 1960s-1970s: a daunting proposition considering continued population growth and the historical trend to use more energy each year. The next 50 years will need to be characterised by adaptation and by changes that reduce energy intensity in all activities to ensure the economy and the community is resilient to oil supply declines. 

The path forward for Palmerston North City Council is to facilitate ‘Adaptive Design’, focusing on fiscal planning, traffic engineering, transport planning, urban design and land use planning. The study team encourages other Councils to follow Palmerston North’s lead in order to gain a competitive edge in a future with less oil. 

Dr Garry McDonald, 09 915 5520 or garry@me.co.nz

Full Cost Accounting for Income Inequality?

‘Accounting systems’ are used to collect and aggregate information for decision makers. They influence behaviour, as the things that people value are accounted for, and are usually used to evaluate change. However, Regional Councils in New Zealand (Greater Wellington, Waikato Regional Council and Auckland Council), along with organisations such as Anew New Zealand are exploring emerging accounting approaches, one of which is Full Cost Accounting (FCA). 

Traditionally, accounting systems track economic and financial transactions. The international Standard System of National Accounts and procedural rules for calculating national income and production accounts were agreed upon in 1968. These were codified in the “Blue Book” produced by the UN Statistical Office. Very much a product of their time, the rules narrowly concentrate on economic production, and it is from these that Gross Domestic Product (GDP) is calculated.
Simon Kuznets, one of the architects of the System of National Accounts, was not content with the system he helped create. He emphasised the problems of scope, valuation and the distinction between net and gross outputs. Over the years, the inadequacy of the System of National Accounts as a measure of welfare has been established in literature and from the late 1960s and 1970s with the growth in environmental consciousness, the values of the environment, natural capital and ecosystem services are explicitly recognised. We measure what we value, and our values change over time. Our accounting system requires updating to reflect this change. 

What became apparent was that the accounting system that focused on economic production did not consider (nor value) the broader consequences of that activity. Therefore the consequences were not fully incorporated into the accounting system. FCA moves beyond private costs of business accounting to a system of cost accounting for society. For example, it is in use by GPI Atlantic, a Canadian research group dedicated to developing an index for measuring sustainable development. FCA is an extensive approach, although not entirely a new approach in New Zealand given that the four well-beings are considered in decision making since the Local Government Act of 2002 and a cost-benefit analysis (Section 32 of the Resource Management Act), undertaken properly, often requires a broad consideration of effects.

The main departure of FCA, from traditional economic practice, is the consequentialist approach required by FCA. Economic philosophy has ‘addressed’ but not resolved the attribution of cause and effect. In reality, social and economic systems, and their interaction with the natural and the physical space, are complex. FCA is an emergent methodology, pushing the boundaries between epistemology (theories of knowledge), economic philosophy and pragmatic measurement of effects.

Recently M.E was commissioned by the above mentioned Regional Councils to explore whether a FCA approach to measuring income inequality was possible. The first question was what to measure, and this was controversial in itself. Establishing the consequences of inequality is not a fait accompli. Inequality can be considered a benefit, as it offers an incentive for individuals to improve their own situation and leads to innovation. It also can be considered negatively, at odds with a sense of fairness and justice for all people. Income inequality is a distribution, and one needs to establish a causal mechanism, rather than correlations of income levels with outcomes. Causation in the natural sciences (e.g. physics or mathematics) are established from agreed sets of either physical laws or logical theory (at the relevant scale), resulting in more deterministic systems. However, causation in social systems is less deterministic, given that the rules can be changed by individual action and behaviour. This debate about causality is at the heart of critique and criticism of the Wilkinson and Pickett’s (2009) book The Spirit Level, which studied health outcomes and income inequality levels.

Once agreement is made on what should be measured, the methods of measurement are then developed (i.e., the construction of reference scales). Measurement is at the basis of our decision making, usually we ‘weigh-up’ a decision, measuring ‘pros’ against ‘cons’ to decide on a course of action. It may not be possible to observe or infer causality and therefore measure the phenomena. There is a need to establish metrics, traditionally economics has used market valuation techniques, as expressed by price. Over the years, non-market valuation techniques were developed, contingent valuation such as willingness to pay. There may be no feasible method for valuation – if something has an infinite value or instances where it is simply not possible to put a dollar value on something e.g. cultural or spiritual value of a landscape. In such instances recourse has to be taken to accepting a qualitative assessment of the consequence. 

After an extensive literature review of the inequality literature, it was difficult to agree upon an exact method for enumerating the costs of income inequality given different political perspectives on its cause. For this reason, the study concluded that an FCA approach would not be realistic for this topic area. However, it remains a valued emerging technique that has potential for application in other areas. 

Dr Catherine Murray, 09 9155517 or catherine@me.co.nz

   

Market Economics Ltd
Level 5, 507 Lake Road,
Takapuna 0740, Auckland, NZ
www.me.co.nz

info@me.co.nz
+64 9 915 5510
+64 9 915 5513

© 2012 Market Economics.