"The recession and the credit crunch have reduced spending on imports, while lower interest rates and falling company profits have reduced the outflow of investment income."
Statistics New Zealand will tomorrow release the June deficit figures, which Westpac expected it to have reduced from 8.5% of gross domestic product in March to 6.6% in June.
That was still high by world standards but the lowest for New Zealand since December 2004, he said.
Since 2005, the Reserve Bank had been highlighting the need for a rebalancing in the New Zealand economy away from consumption and towards exports.
Given the escalating rhetoric on the subject, people could be forgiven for thinking there had been no progress towards rebalancing in that time.
But that was not true, Mr O'Donovan said.
New Zealand's trade balance bottomed out in September 2005 and had since been on a wobbly but improving course.
The exception to that was in 2008, when world oil prices surged.
The blowout in the trade position was tolerable in light of the temporary nature of the shock, although New Zealanders would have had to face a wrenching adjustment in their spending patterns if the price rise had turned out to be permanent, he said.
The improvement in the trade balance came about because the value of exports rose faster than at any time in recent history - but notably, imports rose almost as quickly.
"The key was that our propensity to spend that additional export income was lower than before, suggesting there must have been an incentive to save more and borrow less."
The latter part of 2005 also marked the point when monetary policy appeared to have become genuinely restrictive, Mr O'Donovan said.
The Reserve Bank raised the cash rate to 7.25% in December 2005, held it there for more than a year before raising it to 8.25% in 2007.
Higher interest rates played a crucial role in restraining spending on imports as the country's export income rose.
Some of the restraint would reflect delayed spending that would be unleashed once income growth resumed, in the absence of any other changes, he said.
"So if the progress to date on rebalancing is to be maintained, higher interest rates will eventually have to be part of the mix. A weaker exchange rate and higher export income are not sufficient."
