The 'headline' news from Wednesday's inflation figures looks sensationally good. But there's a catch.
And it's a catch that means we may not see interest rate falls just yet. However, I would say right now there's still a better than even chance that we will see rate cuts before Christmas.
While the annual inflation figure as measured by the Consumers Price Index has come in at 3.3% for June - a three year low and below both the forecasts of the Reserve Bank (RBNZ) and some economists - nothing in life is simple.
The RBNZ had forecast the 'headline' inflation figure to be 3.6%, so the actual figure is a pleasant surprise for our central bank. But the arguably most significant thing is the figure for domestically generated inflation. And that came in at 5.4% against an RBNZ forecast of 5.3%. This domestic inflation has been very 'sticky' and has kept coming in above RBNZ forecasts.
Wednesday's inflation figures were always going to be hugely important, but the RBNZ actually upped the ante with some very unexpectedly 'dovish' remarks in its Official Cash Rate (OCR) review on July 10. According to its latest forecasts made in the May 2024 Monetary Policy Statement (MPS) (see page 50) the RBNZ hasn't seen the OCR being cut till the second half of 2025.
Till its marked shift in stance last week the RBNZ had been indicating that there would be no OCR cuts till the second half of next year, but increasingly economists have been suggesting November THIS year as the likely starting point.
Many mortgage customers have been 'going short' with their fixed mortgage rates - as short as six months - in the belief that rates are coming down sooner rather than later.
At the moment the OCR is sitting on 5.5%, where it has been since May 2023 after an intensely aggressive cycle of hikes by the RBNZ that raised it up from just 0.25% at the start of October 2021.
All this is happening against a backdrop of a teetering economy. While GDP grew by an anaemic 0.2% in the March quarter after contracting in four of the previous five quarters, it is already widely expected to have fallen again - and possibly quite substantially - in the June quarter. Recent high frequency economic data has been painting an increasingly dire picture of the economy.
The RBNZ is charged with maintaining inflation between 1% and 3%, with an explicit target of 2%. But inflation has been above 3% for three years now. As of March 2021 annual inflation was 1.5%. Twelve months later it was 6.9% and then peaked at 7.3% in June 2022. Getting inflation back down has taken rather longer. In March 2023 annual inflation was still at a very elevated 6.7%. However, as of March 2024 the annual inflation rate was down to 4.0% and has now of course fallen to 3.3%.
The May MPS forecast was for annual inflation to get to 3.0% in the September quarter and then 2.9% in the December quarter. Interestingly in its OCR review in the past week the RBNZ talked about inflation getting back under 3% "in the second half" of the year - which suggests it's thinking this might now happen a bit earlier than it thought - probably in the third quarter. A number of economists think sub-3% WILL be achieved in the September quarter.
The RBNZ has three more reviews of the OCR planned this year before a three-month summer break. The reviews are scheduled for August 14, October 9 and November 27.
At time of writing - and bear in mind these things move quickly - the financial markets were pricing in a better than 50-50 chance of an OCR cut at the August meeting, a cut is more than fully priced in for October and nearly THREE cuts are priced in by November.
Before the RBNZ has its next OCR review on August 14 it will have the labour market figures for the June quarter to look at. These are to be released on August 7 and will also be important in the OCR setting process. The RBNZ is forecasting that the unemployment rate will have risen from 4.3% as of March to 4.6%. Based on the swathe of recent, frankly dismal, high frequency economic data that's been released, it would not surprise if the figure on August 7 comes out at higher than 4.6%. Such an outcome would help demonstrate a need for OCR cuts.
One more thing for the RBNZ to consider prior to its August 14 review will be the RBNZ's own Survey of Expectations in which business leaders and key economic forecasters give their views of the path of future inflation. A favourable outcome in this survey - and I suspect it will be - will add further downward weight to the OCR expectations.
But right now the RBNZ is likely to continue to watch and wait - just for the moment.
Could it just 'ignore' the relatively high domestic inflation figures and cut rates now anyway? There's certainly a few economists out there who reckon the RBNZ should stop being pre-occupied by the domestic inflation readings. But really, it's not likely the RBNZ will change its stance right now. Probably not.
So, as I say above, my best guess is that we will see rate cuts soon but not just yet. A likely scenario would be for the RBNZ to prepare the ground for rate cuts in its August Monetary Policy Statement and then if the September quarter inflation figures, due for release on October 16 do perhaps show the inflation rate dropping back below 3% then a cut to the OCR may follow in November.
What will the banks do in the meantime? Well, that will be very interesting. There's probably every reason to believe that the banks will pre-empt future OCR cuts with at the very least some pruning of term deposit rates - particularly those for longer durations.
Will they move quickly on mortgages? That one's harder to tell. Substantial moves are probably unlikely until the banks have a clearer steer on just when the RBNZ may move.
People will have to grimace and bear those high rates for a while longer, I fear. But we are getting there.
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18 Comments
Whats so great about lower interest rates. The current rates are about long term normal. Lower rates encourage borrowing and discourage investment. (edit: aka saving)
We would be better as an economy if we worked from the power of ownership rather than crippled by debt.
Distinguishing between borrowing and investment is interesting, and I think quite right. Looking at decision-making processes within corporations it is seldom companies change their investment hurdle rate for what is obviously a short term interest rate. Low interest rates inherently say that confidence is lacking but with the hope that confidence will return in the long-term. Best to invest capital (improving productivity) with a view to long term interest rates applying, and only speculate with lower interest rates when you certain you are the first in the queue to buy existing assets.
If we cut sooner rather than later, how likely is it that it will lead to non-tradeable inflation taking off again? We are still well above the neutral OCR. I can't see that dropping the OCR by 25bps is going to cause rent, rates, insurance or tobacco price increases to get any worse!
The longer the RBNZ sits on the fence the deeper the damage to our economy and the flight to Aussie and other countries will only continue. We are already at record levels of our young and talented leaving. Pity the poor families who bought on Orrs recommendation of "borrow ,borrow, borrow" who are now trapped in their negative equity homes paying ever increasing insurance, rates and electricity.
More recently its averaged around 2.5%. Same target band as tradeable inflation.
https://www.ceicdata.com/en/new-zealand/consumer-price-index-jun2017100…
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Or alternatively, it may surprise on the upside.
I disagree, the much lower inflation figure than the RBNZ expected is very good news for the fight against inflation and the domestic inflation is held up by rates, power, insurance, all items which are not responding to a higher OCR. If the RBNZ has any brains, it will realise how much pain it is inflicting on the economy, how many people are about to be made redundant, how many more businesses will close down, and drop the OCR by 0.25% in August.
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