The visible hand in economics

New Zealand’s second biggest concern from the Sanlu scandal

Posted on: September 29, 2008

Obviously the biggest concern from this scandal should be the loss of life associated with it. However, the next biggest issue from a New Zealand standpoint is the potential loss of income associated with the damage to the “New Zealand brand”.

Now if Fonterra was taking into account the risk and return associated with their investment in Sanlu I would have little sympathy for the business in this case.  However, according to Rod Oram poor governance in Fonterra ensured that the business owners (the farmers) were put into a situation where risk and return were not taken into account appropriately, and as a result the loss of domestic income was the result of poor processes that were entirely avoidable (ht The Hive).

Furthermore there is a negative externality here.

If consumers in China value safety, and they base their expectations of safety on a their perception of a “nation” then an unsafe product from NZ damages the reputation of all exported New Zealand products. As a result, other exporters also suffer from reduced demand.

Interestingly, the first signs are that New Zealand’s reputation in China has not been completely annihilated as a result of this mistake. However, I guess we will see in due course.

If you want to think of this impact in economic terms, think of it as a reduction in New Zealand’s terms of trade. People in China will be less willing to pay for New Zealand agriculture products because they think they are “less safe”, as a result trade that does occur there occurs at a lower price, while trade that shifts to other countries will do so at lower prices (as they were the initial “other option” for sending the product to anyway).

With world oil prices elevated, the global economy slowing, and a domestic recession a scandal from one of our largest firms is hardly what New Zealand needs right now.

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