She introduced it by underlining that the Labour/Alliance government had from the outset "signalled an end to ‘hands-off’ economic management and foreshadowed the development of smart interventions to facilitate economic growth". "For too many years before", she said, "governments had been erratic, unpredictable, and pursuing agendas which left most New Zealanders feeling worse off and uncertain about the country’s future".

The strategy has the extremely ambitious objective "to return New Zealand’s per capita income to the top half of the OECD rankings over time". (Remember that this is trying to catch up with a moving target – the incomes of the rest of the Organisation for Economic Cooperation and Development must be growing too if we are to achieve this target through an export-led strategy. It’s as if we’re asking for a tow to start our engine, and then expect to pass the car that is towing us).

There are positive aspects to the strategy. It recognises much more explicitly than before that "hands-off" free markets don’t work. It goes further in recognising that economic development requires a strategic approach to create new sectors which can bring growth to an economy whose existing comparative advantages, while still important, have obvious limits. As the Government’s booklet says (p14): "Our primary sectors have always been innovators and given the importance of the sector to the New Zealand economy, it is imperative that its performance continues to be enhanced by the application of knowledge… [However] It is not possible to achieve the growth target by relying on the 9% of the economy that relates to primary production to support the other 91%".

The strategy is based on ideas of cluster development (firms in a common sector and location whose activities are mutually reinforcing) in sectors requiring highly skilled employees and advanced technology. As will be seen, three sectors have been selected: biotechnology, information and communications technology, and creative industries. Given that most other developed economies in the world are eyeing the same sectors, success depends on successfully selecting and developing niches within those.

The strategy also has dangers. The huge increase in foreign investment recommended by one of the background reports is the focus of this article. It has apparently not – at least not yet – been accepted by the Government, but the recommendations are "under review", and so the report needs careful analysis.

The strategy is deliberately focused on three high productivity sectors, which are also likely to be geographically concentrated. It is therefore not clear that it addresses the problems of regional development, which will become increasingly urgent if the textile, clothing and footwear industry is largely destroyed by tariff cuts. Current Government policies only begin to address these problems.

The strategy also fails to break away from a decidedly elitist model of development, despite claims for it being based on a "widely shared vision" (hands up those who were consulted). Indeed one of the reports released with the statement says as much:

"Feedback tells us that opinion leaders have accepted the notion of economic transformation and that the discourse has shifted from ‘why?’ to ‘what’ and ‘how?’. However, other research shows that the message is not clearly understood by ordinary New Zealanders across business and wider society. People do not want the focus on productivity and economic growth, the knowledge economy, to compromise their own future, or that of their children, communities or the environment. While they want opportunities to improve their skills, they want reassurance they will share in the benefits of economic growth. Many people do not understand concepts to do with ‘knowledge’, be it wave, economy or society, or, if they do, they see them as interesting and valuable but not central to their life or work. Many people are apprehensive about the changes that will be required to create a higher growth economy. They want the Government to take the lead in communicating about change and making sure that people have opportunities to benefit" ("Turning Great Ideas Into Great Ventures", Science and Innovation Advisory Council, p15).

There is a high risk that the strategy’s benefits will be cornered by the private businesses on which it heavily depends for success – that there will be no ‘’trickle down’’ and no ‘’trickle out’’ to the rest of the economy.

This dependence is reminder that the Government still has many neo-liberal vertebrae in its backbone. Amongst these is its penchant for free trade and investment agreements which is both a cornerstone of the strategy ("an open and competitive economy") and, as will be seen, a weakness. The strategy may also stumble over that carefully protected neo-liberal cornerstone, the Reserve Bank Act, which may savage any rapid growth.

According to the Prime Minister, the strategy was the result of a year’s work by Government in collaboration with the private sector, including the Knowledge Wave Conference in Auckland.

A number of reports were released with the statement, including from

• the Science and Innovation Advisory Council on innovation;
• LEK Consulting on strategies for "building a talented nation";
• Boston Consulting Group how to target foreign direct investment most effectively.

Other contributions included work by Treasury on "economic transformation"; the work of the Tertiary Education Advisory Committee reforming the Tertiary Education sector; and "the policy and programme development of other government departments and agencies in the economic and social development, trade, science and research, education, and immigration areas".

A "consensus of advice" was received from these sectors, including a "widely shared vision for New Zealand" which saw the country as valuing diversity, "a great place to live, learn, work, and do business", "a birthplace of world-changing people and ideas" and "a place where people invest in the future".

To return New Zealand’s per capita income to the top half of the OECD rankings requires growth rates "consistently above the OECD average for a number of years. The strategy focuses on four key areas to bring this about:

• "Enhancing the innovation system" includes increased research and development spending, new strategies for tertiary education and research, and supporting innovative businesses in various ways

• "Developing skills and talent for New Zealand" includes the Government investing "as much as it can in education and industry training", immigration policies to encourage immigrants with specialist skills and talents; and enlisting New Zealanders overseas. Stronger links between employers and tertiary education and training providers would be built, and "the Government will look for ways of working together with the private sector" in this area.

• "Increasing New Zealand’s global connectedness" focuses "on the attraction of quality foreign investment; aggressive export promotion; and improved national branding of New Zealand". This includes new trade and investment agreements, but there is a greater emphasis on the active export promotion which many exporters favour.

• "Focusing Government’s resources" on three areas "which are capable of having a material impact on growth rates across the board, which are capable of developing world class scale and specialisation quickly, and which contribute to the vision of a globally-oriented, innovative New Zealand economy":

  • biotechnology,

  • information and communications technology, and

  • creative industries.

The Government will establish joint public-private sector taskforces in these areas and will instruct Government departments and agencies to "prioritise the development of these areas in their policies and programmes".

As already mentioned, the strategy recognises much more explicitly than before that "hands-off" free markets don’t work. But there are still strong neo-liberal underpinnings to the policy. That does not mean the strategy should be rejected out of hand: it has positive aspects which are a sign of progress. The question is whether they can survive in the hostile environment the neo-liberal foundation provides.

The Government’s 64 page booklet, "Growing an Innovative New Zealand" displays the tensions present in the strategy. It is least ambiguous in its acceptance of the globalised economy. Early on (p12) it states "No matter how much people value the ‘New Zealand way of life’, capital and labour are mobile. Unless we improve our relativity in world rankings, they will increasingly concentrate elsewhere". There is no question here that there is any alternative to an open economy, integrated with the rest of the world, or that capital mobility can be tamed.

Its potted economic history of New Zealand (p18) deviates only a little from the standard neo-liberal myth. It does point out that the "Government has had an important role in the New Zealand economy since the 19th Century, when it was very involved in the early development of the economy". No lessons are drawn from New Zealand’s response to the Depression of the 1930’s – from which grew a strategy with parallels to the present one – to reduce our reliance on agriculture, and manage our foreign debt, which was one of the major transmission mechanisms of the Depression. It is passed over lightly: "more substantial government attempts to stimulate domestic industry and develop a ‘modern economy’ date from about World War 2. This occurred largely from behind import protection". This is despite another of the background papers stating the position more clearly:

"On an historical note, and with the role of Government in mind, all New Zealand’s large companies once started as small ventures. It is no accident that many of today’s large, successful, globally-active New Zealand companies were founded at a time when conditions in the home market were very different from today. Import protection was, more often than not, the greenhouse that protected those seedling companies. We are not recommending a return to those times, but we observe that today’s lean young companies are operating in a vastly more turbulent and competitive environment" (p23, Science and Innovation Advisory Council {SIAC}, "An Innovation Framework for New Zealand – Turning Great Ideas into Great Ventures").

Though it is stated as an apparently unrelated fact (p13) that New Zealand’s real per capita income was among the highest in the world in the 1950’s when the economy was less open, there is no analysis of this or the period’s other successes such as full employment and low foreign debt until the mid 1970s. Neither is there real analysis of its weaknesses from which lessons could be drawn. Instead, the "Think Big" programme in the early 1980s is seen as its natural culmination – yet by then, the Muldoon administration had begun the process of opening the economy, though not as fast as the neo-liberals and the largest corporations would have liked.

It repeats the standard claims as if they were uncontested truth. On page 15 it intones: "Countries that are rich, and are becoming richer, are those that are well integrated into the global economy in terms of the flow of goods and services, people, ideas, knowledge and technology. Poorer countries on the other hand are generally not well integrated into the global economy".

There is no discussion as to how those countries became rich. Almost all industrial countries developed behind protective barriers of quotas, tariffs, monopoly or colonial power. The 1997 financial crisis in East Asia, and the current economic chaos in Argentina all followed uncontrolled opening to the "global economy". Amongst the highest growth economies today are China and India, which have distinguished themselves by not following the advice of current orthodox economists, such as those in the International Monetary Fund (IMF) and World Bank, mirrored in our Treasury for the past two decades, to rely on free and open markets. The point is not that any of these are blueprints for New Zealand, but that the authors of this booklet appear not to have drawn real lessons from these experiences.

The closest it comes to drawing lessons is to say that, while Rogernomics and Ruthanasia provided a sound basis, more Government involvement is now needed:

"However, the growth improvement was less than predicted. It is now clear that additional policy settings are required to generate transformational change in the economy, and return New Zealand to the top half of the OECD. In sum, neither policy settings that had the extremes of very heavy Government involvement in the economy, or of very little Government involvement in the economy, generated sustained high rates of growth. A key reason for the failure of these policy regimes to deliver was that they were imposed with little consideration of their relevance to the actual structure of the New Zealand economy. Economic policy since 1999 assumes a new and relevant role for Government in the economy" (p19).

In the context of the last two decades, it is a highly significant concession that the report states that "these policy regimes to deliver was that they were imposed with little consideration of their relevance to the actual structure of the New Zealand economy".

Given their assumptions, their conclusion is logical: "New Zealand needs to aggressively find ways to overcome its geographic location and connect with global markets – for goods and services, but also to access ideas, technology and people". In other words, the strategy is primarily led by exports, and powered by private (especially foreign) investment. Government involvement is certainly anticipated, but:

"This is a different role from that of the heavily interventionist Government action observed before 1984. The Government does not propose to rely on ownership stakes or on regulation and tax breaks to transform the economy. This is a market led approach to economic development, not one that is centrally planned. The intention is to unleash the productive potential of the private sector not to replace it" (p22).

The community and public sector’s role is secondary: the partnership with Government and public institutions such as universities and Crown Research Institutes is there to support the private sector, rarely in its own right (education "exports" are a partial exception). They provide infrastructure, skilled workers, research and development, and assistance with marketing.

Unless and until socialists find a practical alternative, reliance on the private sector is inevitable. But the policy still fails to spell out many of the risks which can only be mitigated by Government interventions. Many of those interventions – including explicit support for exporters, and requirements to use local materials, introduce technology, or locate outside the main centres – are ruled out or enfeebled by the rules enforced by the institutions of the "global economy". The need for such intervention is underlined by the data presented on page 17. Less than 4% of New Zealand firms export; and in 2001 only 151 firms exported more than $25 million, only 51 more than $75 million. Research and development spending is dominated by the Government and public institutions, with private spending the lowest in the OECD with only 28% of the total compared to the 71% OECD average.

Other interventions will become increasingly urgent under this form of development, such as reducing income inequality via taxes, and controls on capital movements. But these will be opposed by the same economically and politically powerful mobile capital the strategy depends on attracting and retaining.

Importantly, the strategy does acknowledge that economic growth must be balanced with other goals: "This Government does not believe we can put on hold social and environmental progress, and concentrate solely on economic growth. Implicit in the quality of the growth we are seeking will be integration of the economic, environmental and social pillars of sustainable development". The strategy is short on details on how that will be achieved.

As the strategy document says: "Foreign investment is welcomed, the Government is actively supporting fair and open global trade, and pursuing trade agreements where possible" (p27).

The Government commissioned the Boston Consulting Group (BCG) to advise it on ‘how best to attract appropriate foreign direct investment". The BCG is "an international strategy and general management consulting firm whose mission is to help leading corporations create and sustain competitive advantage" according to its web site (www.bcg.com). It had 2,370 staff in 2000, and has 54 offices in 34 countries. It has 17 "practices", including "Globalization", about which it says:

"In addition to being an internal resource, the Globalization practice participates in external research projects. Through our collaborative efforts with Professor Jeffrey Sachs, of Harvard’s Center for International Development, Globalization has contributed to reports that have influenced decision-makers around the world. Most recently, Globalization researched and wrote a piece, presented to India’s Minister of Commerce and Industry, on foreign direct investment (FDI) in India, that contributed to significant changes to the FDI regime in that country".

It would therefore be surprising if its report was critical of foreign investment. But its report, "Building the Future: Using Foreign Direct Investment to Help Fuel New Zealand’s Economic Prosperity", takes a somewhat more nuanced view than the gung ho attitude of the past two decades. It focuses on foreign direct investment (FDI). FDI is investment where control is intended, and so usually implies a commitment to the investment which is frequently not present in portfolio investment (minority shareholdings), bonds and many other forms of debt. The BCG report says (p.xi)

"FDI is not without its critics or its drawbacks, and there are legitimate concerns that an FDI strategy must address. Our view is that the types of investments that should be targeted are those which directly increase activity, exports and skilled employment. ‘Greenfield’ investment, or investment which creates new businesses or expands current businesses through reinvestment, is highly sought after for this reason. Such foreign investment will not displace low-wage jobs in the domestic market with other low paying opportunities; instead, it will shift certain areas and whole sectors into a higher gear, with more competition, more innovation and more transfers of skills and knowledge".

After a brief and (as will be seen) inadequate analysis of the rationale for this approach, most of the report concentrates on how to attract such greenfield investment. It proposes a well resourced Investment Promotion Agency (IPA) which is strongly supported by Government, and integrated into its economic development strategy. It proposes subsidies for suitable FDI at levels that are high by international standards.

As with the Government’s strategy as a whole, this report contains good and bad. It is the first substantial acknowledgement from an officially sanctioned source that much of the deluge of foreign investment that came over the last decade did not live up to the claims made for it. In the guarded jargon of the strategy: "the quality [of the FDI] has been poor". It takes a sensible approach of proposing that New Zealand be selective about which FDI it chooses. Yet it then fails to define its proposals in a way that can be properly evaluated, appears to tolerate massive increases in the same FDI it has acknowledged would be undesirable, fails to analyse the wider economic effects of its proposals, and appears oblivious as to how the international agreements to which New Zealand is party will affect its proposals.

The document begins with little more than the usual claims for FDI as a fuel for "the economic growth of small, developed countries like New Zealand". Many of its sources are second-hand, such as newspaper reports. Having given some examples of official reports proclaiming the message, it concludes with the non-sequitur: "Although the precise relationship between FDI and growth continues to be a matter of significant debate among economists, even the most ardent critics must admit that FDI levels are generally high in countries with fast growing economies".

Well, no, actually. New Zealand (according to the UN’s World Investment Report 2000 (WIR2000) is the most transnationalised developed economy in the world. The degree of our transnationalisation – an index constructed from four measures of the degree to which the country is dependent on FDI * – is two and a half times the average of those developed countries for which the index could be calculated. If anyone has high FDI levels, we have. Yet isn’t the whole point of devising this strategy that our economy is not fast growing?

* The average of the four shares: employment of foreign affiliates as a percentage of total employment; FDI inward stocks as a percentage of GDP; value added of foreign affiliates as a percentage of GDP; and FDI flows as a percentage of gross fixed capital formation for the past three years.

Among the 23 developed countries listed in the WIR2000’s transnationalisation index, Israel and Finland are among the least transnationalised (seventh and sixth from bottom respectively) yet are countries that BCG holds up as models. On the other hand, another model, Ireland, is fifth from the top.

In any case, even if such a relationship between FDI and growth existed, the critical issue is whether growth is caused by high FDI, or, more likely, that FDI is attracted to high growth economies (i.e. growth causes high FDI). While it is possible that the former is true, no evidence was presented. On the other hand, there is a wealth of evidence that shows the latter is the case. According to the same World Investment Report (which is also cited a number of times in the BCG report), in 1999 just ten countries received almost three quarters (74%) of all FDI flows, and the same proportion (74%) went to developed countries. The proportion going to developing countries (26%) is falling (down from 38% in 1997) and just ten developing countries received 80% of the FDI. So FDI is very focused in economies that are safe or profitable.

The BCG report does cite in its support a research paper, "How does foreign direct investment affect economic growth?" prepared in the Research Department of the IMF ("How does foreign direct investment affect economic growth?", by E Borensztein, J De Gregorio, and J-W Lee, published in the Journal of International Economics, Volume 45, 1998, pages 115-135, and also as National Bureau of Economic Research working paper 5057). Unfortunately, the BCG authors appear not to have actually read this paper. The authors of the paper quite explicitly say that "we focus only on foreign direct investment received by developing countries" (p122). Unless New Zealand has already achieved developing country status, the findings cannot be applied. This is not a quibble: the paper’s findings apply only to countries with relatively low levels of education (only a few years of secondary schooling). Indeed, it finds that for countries with very low levels of education, increased FDI actually harms growth. There are methodological issues which could be debated which would further question this paper’s conclusions, but whatever, they are of little relevance to New Zealand. More of this below.

The BCG says that the benefits of FDI come from three main areas: increased productive capital; market access; and innovation and enhanced productivity. In addition, they say, "different types of foreign investment can have a greater or lesser impact on economic growth. For example, greenfield FDI – which is investment in new economic activity – most often generates more value than FDI that goes to privatising State-owned assets or to acquiring or merging with domestic firms that are focused solely on New Zealand’s small national economy". So they favour greenfield investment that produces exports. They want it in developing sectors forming "clusters" of businesses that reinforce each other, and in "higher growth, higher return areas of the economy that provide more innovation and productivity enhancements, are removed from commodity price cycles, and create higher wage employment".

• Foreign investors seeking unreasonably high profits (economic rents) from the exploitation of finite natural resources. The nation’s natural resources are an asset that needs to be managed carefully.

• Firms receiving grants and then relocating to countries offering greater inducements. Some firms are becoming expert at this process, particularly in industries like clothing manufacture and call centres, where the facility and/or related supply networks are relatively mobile.

• Neighbouring economic areas entering a ‘race to the bottom’, with a potential foreign investor playing one area off against the other. The Australian states best exemplify this danger, as highlighted in the recent Blackburn Report, which found fragmentation and overlap among state Investment Promotion Agencies (IPAs), leading to destructive competition.

• Merger and acquisition activity leading to disinvestments. Often the first areas of a firm to move offshore are the head office and research and development (R&D) functions. These are generally high value activities and they take with them some of the more talented individuals. The departure of head offices also has a substantial impact on other suppliers.

• Growth in foreign investment making it more difficult for local companies to find skilled workers and supplies.

We agree that these risks are real and significant. However, we do not believe that they overshadow the importance of attracting high quality FDI, or that they should deter governments from intervening to secure it. What they do underline is the importance of developing an FDI strategy that targets the right kind of foreign investment and builds the long-term capabilities to sustain growth in those segments of the economy that FDI supports."

We could add the effects of FDI dividends on our balance of payments *, use of monopoly positions other than in raw materials to extract excessive returns to investors, political interference, and blackmail using the threat of divestment, among others. But at least some concerns are at last being acknowledged as valid.

* The BCG (p14) quotes a Treasury working paper to say "there are estimates of up to 85% of FDI inflows are either in the non-tradeable sector, or are largely orented towards the domestic market". In other words, FDI hasn’t helped exports. That means that the outflow of dividends must have been largely uncompensated by increases in exports – a situation commonly disputed in the past when we have pointed out the effects of investor income on the Current Account Deficit.

But it is in recognising these problems that the BCG recommendations then go astray.

We need more caution about the definition of greenfield investment. Greenfield investment in sectors new to New Zealand which require high degrees of skill or specialist contributory services, arguably can stimulate the development of local firms in the same business. This is the concept of cluster development (upon which most of the Government’s strategy rests) in which new firms take advantage of the skills and services which develop in a locality. There are successful examples of this in information technology in Christchurch for example.

However, the BCG note a different form of "greenfield" activity – where an existing small New Zealand firm is taken over and expanded. A further form is where the investment creates a new operation, but in competition with existing firms. These last two have more dangers than the first. When a local firm is taken over, to quote the BCG above, "often the first areas of a firm to move offshore are the head office and R&D functions. These are generally high value activities and they take with them some of the more talented individuals. The departure of head offices also has a substantial impact on other suppliers". While the competing form of greenfield investment may have the advantage of providing competition, it may also lead to the failure of competing "infant" firms before they have the chance to mature.

Indeed the WIR2000, whose theme is comparing takeovers against greenfield investment and in which it is likely the BCG group found many of its ideas, considers that in the longer term, the difference between greenfield investment and takeovers fades. This is in part because the greenfield investment may push out or take over competitors (e.g. page xxv). More careful definition of the greenfield investment that is considered acceptable is therefore necessary. Ongoing regulation is required, or the short-term benefits may be lost.

But greenfield investment – even loosely defined – is a rare species. The WIR2000 says that for developed countries, between 1987 and 1999, greenfield investment was never above 23% of all FDI flows, and troughed at 2% in the late 1980’s (p114). Overall, less than 20% of FDI flows is likely to be greenfield investment, and even less than that in developed countries. Consequently there is intense competition for greenfield FDI amongst those adopting the strategies the BCG advocates.

The BCG reports that FDI in New Zealand is "heavily weighted towards mergers and acquisitions (M&A) activity, with a ratio of M&A activity to total FDI more than twice of many comparable developed nations". Their analysis shows M&As were equal to 100% of FDI into New Zealand from 1994 to 1999. That doesn’t mean there was no greenfield investment (because, for example, M&As are sometimes takeovers of firms that are already at least partly overseas owned, so the net FDI in an M&A may be lower than the value of the takeover). But, says the BCG, "the limited data available from the Overseas Investment Commission indicates that greenfield investment in New Zealand is largely concentrated in relatively low growth, low return sectors of the economy. Primary and secondary sectors dominate, with property and business services being the largest components", though that is subject to difficulties in identifying greenfield investment.

Never addressed either is the question of what happens to greenfield investment when it grows up. As the WIR2000 suggests, the difference between it and other FDI probably fades. Its owners may well find it easier to expand by takeovers of promising New Zealand companies rather than the harder work they were invited to do, innovation. That has important implications because it may mean that the wider benefits of the research and skill development that are the rationale for the strategy and Government involvement, become privatised and even shipped off overseas like Allflex’s electronic ear tag technology, Glaxo’s pharmaceuticals, and Linc’s software have been in the past. Perhaps enough will stay in New Zealand to make use of greenfield FDI worthwhile, but we have enough counterexamples in our past to cause concern. Regulation of FDI may be required in the longer term to retain those benefits.

All of this would suggest caution in relying on greenfield investment. It is rare, of uneven quality, and may require tending. But the BCG sets a target not only of 40% of all FDI flows into New Zealand, but at hugely increased level.

To set the level it recommends, the BCG takes a number of blinding leaps of logic. To raise New Zealand per capita income to the top half of the OECD rankings, the BCG reckons we need consistent annual 5% Gross Domestic Product (GDP) growth. (High though this is, it seems on the low side, given that the target is in terms of per capita GDP.) To get from there to a FDI target, the BCG appears to assume that the entire target can and must be accomplished by an increase in FDI.

They then use the same Borensztein, De Gregorio, and Lee paper we mentioned earlier ("How does foreign direct investment affect economic growth?") to estimate the amount of FDI required. Remember (or rather, forget) that the research specifically does not apply to a developed country with high levels of education and technology like New Zealand. This is of the essence, because the aim of that research was to find out the effects of the technology and skills provided by FDI when there is a large difference in technological levels between the source and target countries – not the case with New Zealand. Further, the research does not distinguish the direction of causality: is the growth the result of FDI and increased education, or do growth and increased educational levels attract FDI?

This is not merely of passing interest. The BCG use this supposed relationship that one percentage point increase in FDI inflows produces a 0.8 percentage point increase in GDP growth to estimate how much more FDI we need to meet their annual GDP growth target of 5%. It comes to the astonishing conclusion that it would require FDI inflows to quadruple from around $4 billion at present to $16 billion per year in 2011 (a doubling of inflows as a percentage of GDP from around 4% to 8%).

Since M&A’s constitute at least 80% of this, "a $16 billion FDI target implies a rise in M&A activity from its current level of around $4 billion per annum to over $12 billion per annum in 2011. This means that between now and 2011, foreign investors would acquire a total of around $80 billion of domestically owned assets in addition to the $66 billion they own now, resulting in approximately 50% foreign ownership of New Zealand’s capital stock". This is an underestimate of the degree of control that would result, as it counts (for example) a 51% overseas-owned company as only 51% overseas controlled where it would in fact be wholly controlled overseas. It also makes unstated assumptions about the amount of domestically owned capital.

"This is likely to be an undesirable situation for New Zealand, and we do not suggest that it is a reasonable target". Good thinking.

So how to get around this? Because greenfield FDI "generates more growth than M&A activity, it may be possible for New Zealand to achieve its GDP growth target with a lower volume of total FDI inflows, but only if those inflows contain a higher level of greenfield FDI than the global norm". The BCG assumes that if we can double the global proportion of greenfield investment from 20% to 40% then the overall target for FDI inflows can be reduced to "only" $7 billion in 2006 rising to $11 billion in 2011.

That would still mean overseas ownership of around $145 billion of productive assets by 2011. BCG gives no estimate of what proportion of New Zealand’s capital stock would then be overseas owned, but the degree of overseas ownership is still huge. Few countries other than tax havens would get near us in our dependence on FDI. It also begs the question as to whether we really have that many more assets that are attractive enough to be sold to foreign investors, at least without another rush of privatisation – or perhaps takeover of the local firms the strategy is carefully nurturing.

No data is given to justify their new assumption that 40% greenfield investment will achieve the growth target. Even if we accept that it will achieve the desired result, to achieve 40% greenfield investment will require strenuous efforts: remember that our experience in attracting greenfield investment has been considerably worse than 20% of FDI inflows. In their understated words, this "aggressive target … will be a significant challenge":

"To achieve this target, New Zealand would have to grow total FDI inflows at an average rate of 11% each year, and greenfield FDI at an average rate of 37% each year. It would mean attracting $4–$5 billion in new greenfield investment in 2011, which is equivalent to around four new companies each year with assets comparable to Fisher & Paykel".

That’s not all:

"In addition to its overall greenfield target, New Zealand should focus on attracting FDI that offers high skill, high wage jobs and consequently deters talented New Zealanders from looking for work abroad. FDI in export-oriented industries should also be targeted as it offers an attractive channel for growth beyond the small domestic market. Finally, attracting investment in the production of high-value products in specialist areas means that New Zealand will not have to compete with large, developed countries on scale efficiencies, or with developing nations on labour costs."

It is little wonder that the BCG then goes on to describe a new, powerful Investment Promotion Agency and an array of Government support and subsidies for suitable FDI.

But before turning to that, consider a few of the effects of what the BCG are proposing. It is surprising that these effects are not analysed by them, and is probably why the Government has yet to give its decision on how it will deal with the report’s recommendations.

First, the huge increase in investment will have short-term inflationary effects on the domestic economy, and is likely to put stress on infrastructure such as housing, construction and transport as the new funds suck in resources to build the hoped for new assets. The Irish experience is just that. The response from the Reserve Bank will inevitably be to raise interest rates, hitting domestically-sourced investment. Both rising interest rates and the huge inflow of foreign investment will lift the exchange rate, hitting exports. That raises the question: can the targeted growth rates be attained under the Reserve Bank Act?

Second, there will be a growing effect on the current account as increased investment income is paid to the overseas investors. The rate of return on FDI over the last five years has been 7.4% (according to Balance of Payments data from Statistics New Zealand). If that remained the case (though we would expect the successful firms required to provide high growth rates would have higher rates of return) then on the BCG’s projections, by 2011 about $11 billion will be remitted overseas in income on foreign investment – about as much as the new capital coming in. That alone will be over 6% of GDP (up from about 4.5% now) if the strategy is successful in raising GDP as BCG project. If the overseas debt has not fallen as a percentage of GDP, then over 10% of GDP will be going overseas in investment income. If GDP growth rates are not as high as hoped, the position will be even worse. But the success in expanding exports, restraining imports, and constraining subsidies to investors will all affect the final result. The BCG gives us no idea of the risks involved.

Finally, this FDI strategy is self-contradictory. Even if the unlikely happens, and 40% of the increased FDI inflow is greenfield investment, the other 60% requires M&A FDI inflows at similar rates to the last decade. What would lead us to expect that it will be of any better quality than before? It didn’t lead to increased growth rates – quite the contrary, as these reports all now acknowledge. Getting more of it will just act as a deadweight against the success of the overall growth strategy.

The logical policy would be to select the FDI we think will be beneficial and refuse entry to the rest. But we can no longer do this. The actions of this and previous Governments in signing us up to international agreements such as the General Agreement on Trade in Services (GATS) and the Agreement on Trade-Related Investment Measures (TRIMs) in the World Trade Organisation (WTO), the Closer Economic Partnership with Singapore, and Closer Economic Relations (CER) with Australia, prevent us from selecting FDI under the Overseas Investment Commission other than for land and fishing quotas. We cannot even require foreign investors to export a certain proportion of their output or use local materials. We are forced to accept just about any foreign investor that comes buying assets.

First, it discusses "roadblocks" to investors. On many counts, it finds that New Zealand already has few impediments: quality of life, industrial relations, transport infrastructure, corporate tax rates, Government charges and regulations, international trade practices, raw materials, and packaging all compare well with other countries (p20). That is hardly surprising given than primary aims of the economic policies last two decades has been to remove such impediments. There is a warning in this however: it is on many of these issues that people want further and more rapid change to back out of the policies of the past. But the BCG says (p30) "the impact on foreign investment should be among the considerations when deciding changes to Government policy". They will come in conflict with the social and environmental goals the strategy espouses. The BCG analysis is a warning that a reliance on FDI makes further social and environmental progress increasingly difficult. It zeroes in particularly on the Kyoto Treaty, the state of the electricity sector, and "simplifying" the Resource Management Act:

"… we are certain from our experience on this project and in ongoing discussions with business as part of our core business that the impact of these events on New Zealand’s competitiveness did not go unnoticed in international boardrooms. We would therefore encourage government agencies to weigh their decisions on policy matters by considering the impact on foreign investment – together with other policy factors – and, where appropriate, to work through key issues with industry associations and other stakeholders.

In summary, removing the roadblocks is a key requirement for securing foreign investment in New Zealand. Our experience suggests that, unless these issues are addressed directly, no amount of natural advantage and no level of incentive will be sufficient to attract FDI to New Zealand over opportunities in competing nations with fewer roadblocks" (p22-23).

Second, the BCG advocates that the actions of people throughout society must be guided by a "long-term vision that specifically addresses FDI and its role in the domestic economy". That includes enthusiastic advocacy by politicians from the Prime Minister down using their influence on every possible occasion, such as when they are travelling overseas, discussing "specific opportunities" with potential investors. But it also includes the rest of the country, "particularly those in economic development agencies and the private sector, but also in health and education, and even the Immigration officers at the frontline in airports. A vision that exclusively ‘belongs’ to an elite in Wellington or Auckland will be less effective and more likely to create long-term problems." (p25, 30)

"Our interviews with the investment community indicated that investors see New Zealand as ambivalent about foreign investment opportunities. In a time when intense international competition means companies have many options for locating new investments, and will often gravitate towards locations that are investor-friendly, this perception needs to be changed.

New Zealand needs to send an unambiguous, headline grabbing statement to the investment community that its approach to foreign investment has changed. The signal needs to convey the fact that the Government will be proactive in meeting the specific needs of companies prepared to make a significant, long-term and sustainable commitment to the nation" (p26).

Third, it advocates targeting certain types of FDI. The aim is to build clusters of industry sectors. The concentration of skills and services then encourages research and development, and the required infrastructure. That in turn attracts further investment and people with related skills. While this appears unremarkable, it is a major break from the past which took the view that "the risks associated with targeting particular areas for development are too great, and that market outcomes are the best way to determine how resource allocation should occur across the economy. Few small countries share this view" (p31).

The targeting would not be specific to FDI: it would be driven by the economic development strategy. But "it does not propose a substantial ‘business’ role for Government". The targeting would be by new industry sector (biotechnology, information and communications technology, and creative industries; the BCG also added environmental technologies to this, but this was rejected by the Government); and supporting a number of existing sectors judged to have considerable potential (education, tourism, food processing, wine, professional services and leisure marine).

Fourth, the BCG advocates the creation of a powerful investment promotion agency (IPA). It would enter an intensely competitive environment: there are around 2,500 IPAs around the world, touting for investment in countries, regions or cities (p47). The structure of the agency is discussed at length in the report. The BCG recommends one that would be highly influential in the development of government policy. "The IPA should have an unambiguous mandate to develop FDI strategy and lead foreign investment promotion and facilitation – investing companies prefer government processes to be centralised". It will be influential, high profile and expensive: "New Zealand’s IPA must be high profile, attracting talented people to build the community’s awareness about the benefits of foreign investment and improve investors’ understanding of what New Zealand can offer" (p50).

None of this comes cheaply; countries around the world are investing significant resources in their IPAs. From the budget sketched, salaries in the agency would be around $150,000 to $200,000. Its budget would be $23-28 million (with 65 employees) by 2003, rising to $48-55 million (with 150 employees) by 2006. The BCG would like it to combine the existing agencies, Investment New Zealand (part of Trade New Zealand) and the Major Investment Service (part of Industry New Zealand). The place of the Overseas Investment Commission is mentioned, its role challenged, but the matter is left undecided (p54-55). The IPA would have its own Minister of Investment, around eight overseas offices, a research branch and "a small but high-powered strategy and external relations team, to ensure that the FDI strategy is updated and developed, and that relationships within Government are working effectively" (p57).

An Investment Advisory Council with membership consisting of "international business leaders with some connection to New Zealand, together with the Minister for Investment and the chief executive officer of the IPA" would "ensure that the IPA has close links with the global investment community" and "will help to ensure that the IPA maintains an outward focus rather than being stifled by domestic issues. The Council will also ensure that the voice of the global investment community is heard within Government" (p58-59).

Finally, the BCG advocates "mobilising government to compete for FDI". It identifies eight policy areas that the Government must pursue: (in descending order of priority) intergovernmental agreements, infrastructure, research and development policy, networks, labour skills and availability, and FDI incentives and administration. These were arrived at by surveying 26 existing and potential investors in New Zealand, including some of the largest transnationals. (p73). Other individuals were also interviewed; they come uniformly from Government agencies or organisations likely to be uncritical of FDI (p 95-97).

"Intergovernmental agreements" predictably means even more intensely pursuing further multilateral and bilateral trade, investment and research and development agreements, apparently including the North America Free Trade Agreement (NAFTA). Government funding is called for on industry-specific infrastructure "that would assist the development of certain clusters, or would attract investment by a specific company". The reference to networks comes down to a recommendation for funding industry associations in target sectors. The labour policy area would lead to closer integration of the education sector with industry, which may produce conflicts over curricula, the function of education, and academic freedom, unless carefully handled (p75ff).

Among these, research and development (R&D) is in some ways a touchstone for the success of the "innovation" strategy. The failure of private firms to engage in research has been notable for some time. As the BCG says: "New Zealand is 23^rd out of 28 OECD nations on total R&D expenditure, mainly because of a lower than average contribution from business. New Zealand’s relatively low spend on R&D translates directly into the proportion of the workforce engaged in R&D activities" (p78).

There is no discussion as to whether this is in any way due to the dominance of foreign capital amongst larger companies in New Zealand. The WIR2000 notes that M&As "are less likely to transfer new or better technologies or skills and may lead directly to the downgrading or closure of local production or activities such as research and development" (p180). It also notes that the relocation abroad of transnationals’ R&D has proceeded far more slowly than other functions. There is evidence for this in New Zealand. In 1991, the Ministry of Research, Science and Technology commissioned a report on "Technology Strategy in New Zealand Industry" by Professor Ron Johnston of the University of Wollongong, Australia (Centre for Technology and Social Change, Illawarra Technology Corporation. Ministry of Research, Science and Technology, Report No. 12, November 1991).

It surveyed the technology strategies of 37 of the 45 manufacturing firms with the largest R&D expenditures. The results showed that transnationals, unless they were using New Zealand as an export base, did not do any substantial R&D: they essentially tweak their existing products to meet local standards.

While the BCG recommends that the Government "expand current collaborative funding activities for research and development, especially in strategically targeted areas, by involving universities and Crown Research Institutes in collaborative arrangements with industry, and through direct industry grants" (p78), there is no clear recognition that something else may be needed to ensure that R&D costs do not remain largely with the public.

Perhaps the most controversial recommendation will be subsidies, or "incentives" in the jargon. The BCG recommends against tax incentives such as tax holidays. Instead, grants should be available to the IPA to offer to foreign investors under certain criteria (p86-88). Once again the report shows a lack of awareness of the effects of international agreements. For example, one of the criteria it suggests is "exports generated", yet as I documented in "Don’t talk about exports: Examples of international agreements constraining New Zealand’s economic development options" (Watchdog 98, December 2001, p27), the Government is quite clear that any subsidy for exports is banned under the WTO’s Agreement on Subsidies and Countervailing Measures. This and other criteria will also fall foul of the TRIMs agreement already mentioned, if the sector involves goods exports.

The level of subsidies recommended is at the highest level internationally: at about 20% of the value of the total FDI secured, because of the "importance to New Zealand of attracting FDI in target sectors, and … New Zealand’s relative economic disadvantage in terms of market size and isolation from large markets. In addition, New Zealand is starting from a low base in terms of attracting quality new investment, and we believe that its investment promotion infrastructure is currently under-resourced and uncompetitive". The BCG believe these subsidies would fall with time, to about 10% of the FDI secured. "Several hundred million dollars" will be required – presumably per year (p91).

Many of the concepts behind the innovation strategy are considerably more subtle and have better grounding in reality than the backward policies of the last two decades. However it has continuity with those policies in its reliance in the private sector to drive economic development, the limitations on the role of government, and the continued drive towards a fully open economy highly dependent on FDI. But there is acknowledgement of at least some failures of the old policies, and government takes a strong (if not central) role in the strategy. The rationale for that is to ensure that the productivity, skill and social benefits of the economic and technological development achieved are not solely captured by the private sector.

Yet there are real contradictions and tensions in the policy: between the economic objectives and the acknowledged social and environmental concerns; between a need for strategic government intervention and the deregulatory straitjacket of the international trade and investment agreements New Zealand has become party to; between expansionary policies and the monetarist policies still embodied in the Reserve Bank; between further social and environmental progress that New Zealanders demand, and the expressed priorities of internationally mobile investors.

The foreign investment component of the strategy is riddled with problems. While a case has been made that carefully selected, genuine greenfield foreign investment could play a useful part in an economic development strategy, the recommendations do not add up to this. Part of the reason for this is the constraints New Zealand governments have accepted, and continue to accept, in the WTO and bilateral trade and investment agreements. Without selection and constraint, the strategy will effectively turn out to be an accelerated version of the FDI experience of the last decade, which the BCG (and CAFCA!) has rightly criticised. The consequences for New Zealand have few international precedents. The implications for employment, growth and the balance of payments have not been adequately addressed. As it stands, it is a dangerous policy that requires radical reconsideration.

In the end, whether we should welcome this strategy or regard it as more of the same, will depend on how (and whether) the Government resolves these contradictions. It is difficult to see how it can begin to resolve them without reviewing its commitment to the remaining bulwarks of neo-liberalism – particularly the open economy and its associated free trade and investment agreements, and the Reserve Bank Act. Even removing those leave the inevitable conflict between New Zealanders’ economic, social and environmental objectives on the one hand, and dependence on extraordinarily high levels of foreign investment on the other.