Economist talks about six key implications from the news
Mike Jones (pictured above), BNZ chief economist, has talked about the six key implications from the recent budget and Reserve Bank announcements, including from RBNZ’s declaration of an interest rate peak.
The latest 0.25% OCR hike was the last
With RBNZ announcing in its forecasts and commentary that the 5.5% OCR was the peak, the standard get-out-of-jail-free card – that RBNZ’s forecasts are “conditional” – now remains, Jones said.
“The bank was curiously relaxed about the demand implications of some extra fiscal spending and the migration boom,” he said. “Nonetheless, we reckon the hurdle to lifting the OCR further from here is now very high.”
The BNZ chief economist noted that RBNZ’s surprise announcement sent both wholesale interest rates and the NZ dollar down, after rising noticeably amidst expectations of an OCR peak of near 6%.
“This effectively delivered an immediate easing in financial conditions and may well have headed off further increases in retail interest rates,” Jones said.
BNZ agreed with RBNZ that rate cuts remained a distant prospect, but retained its May 2024 forecast for the start to the easing cycle, roughly six months earlier than the central bank’s projections.
“All of this means our expectation for a peak in short-term fixed mortgage rates around mid-year remains broadly intact,” Jones said. “Historically, mortgage rates tend to peak a little after the final OCR hike of the cycle. We continue to believe shorter-term rates will be slow to fall given the still-worrisome inflation outlook.”
What the bank’s announcement did, however, was pave the way for earlier falls should economic and inflation conditions allow, he said.
Jones also reiterated that while the OCR has likely peaked, past interest rate hikes will continue to work their way through the economy for some time.
“The average mortgage rate actually paid by mortgage holders across the economy is still ‘only’ around 4.7%. We expect this to rise above 6% by year-end,” he said.
A little more fiscal juice
Relative to the last budget update, there was an eye-catching, and unexpected, swing into net stimulatory projected for 2023/24. This flip was equivalent to 2.4% of GDP.
“There was some concern the extra juice might warrant a more aggressive interest rate response from the Reserve Bank,” Jones said. “But, in the event, the bank seemed happy enough that fiscal policy remains net contractionary over the entirety of the forecast horizon (2024/25 onwards).”
Is New Zealand in recession or not?
The Treasury said it no longer expects the economy to slip into recession this year. Despite this, BNZ continued to hold its fundamental assessment of the NZ economy, as it argued that “recessionary conditions are already here.”
“Yes, there is a chance we can avoid a ‘technical’ recession, but only because there’s a whole bunch of extra people in the country courtesy of the migration boom,” Jones said. “On a per-capita basis, we’re still likely to see a period of contraction in consumer spending and GDP growth this year.”
Adjusted for inflation, spending volumes fell 1.4% q/q, the fourth quarter of the last five to record a contraction. Retail price inflation, which currently sits at 9.1% y/y, he said “has driven an obvious wedge between what we’re spending in dollar terms, and the volume of goods/services that spending gets us.”
Weight(s) coming off house prices
BNZ has been flagging that the house price cycle appears to have shifted from the correction phase of the past 16 months, to one of stabilisation, though it seems the dial has swung a little further to the “correction done” side of things over the past fortnight.
On interest rates, BNZ sees RBNZ’s tools down as removing a source of downside pressure rather than something that would likely provide a strong boost to house prices.
“After all, RBNZ data shows the major banks are testing new borrowers on 8.5-9% mortgage rates, and rates don’t look like they’re going to come down anytime soon,” Jones.
Read to learn more the average historical monthly mortgage rates for the RBNZ average floating rate and the average two-year fixed rate since 1998 here.
Rather, the bank sees the booming migration as more significant.
“Huge uncertainty remains as to the ultimate size and sustainability of the boom,” Jones said. “But, whatever your prior estimate of new houses required to satisfy population growth – and these numbers are always tenuous at best – it’s now likely to be higher than it was. Importantly, this is occurring at a time when construction activity is slowing.”
BNZ expects incremental housing demand to exceed changes in supply for a time.
“From this perspective, budget 2023 funding for 3,000 extra public houses, to the extent they can be delivered, may provide a useful offset,” Jones said.
Deficit(s) raising eyebrows
NZ’s account deficit is now at a whopping 8.9% of the GDP – the largest since the 1970s, and indicative of an economy still reeling from the impacts of COVID-19 – attracting the attention of credit rating agencies.
“The general expectation is that the deficit will become less problematic in future, mainly as the extra tourist income the country is now receiving helps pay off more of our import bill,” Jones said.
“But a more expansionary fiscal setting, as flagged last week, implies a slower rate of current account repair, amid a host of other influences.”
This is a risk that’s more to be managed though than something to be immediately worried about.
“There’s less of a buffer to accommodate any future shocks and surprises, without putting pressure on NZ’s strong sovereign credit rating (pressure which would risk higher interest rates),” Jones said.
Less wiggle room
Jones said the budget did not only delay the expected return to surplus by a year, there’s also a “reasonable chance” that the (slim) surplus projected for the 2025/26 fiscal year will not be achieved.
“The Treasury’s economic forecasts look a tad optimistic in our view and we suspect the economy may undershoot,” he said. “It adds up to a picture of reduced fiscal wiggle room. This limits potential for any future fiscal easing without a cut in spending and/or hike in taxes.”
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