Exporters call on Reserve Bank to delay OCR hike until Sept 16

NZMEA want RBNZ to delay OCR hike, but Bernard Hickey says hike now. Your view?

The New Zealand Manufacturers and Exporters Association (NZMEA) has called on the Reserve Bank of New Zealand to hold off increasing its Official Cash Rate until its September 16 decision, arguing a tightening of monetary policy posed significant risks to the tradeable economy.

“The argument for an OCR hike just doesn’t stack up. Export sales, business investment, job numbers and retail sales figures are weighing against an OCR rise," said NZMEA Chief Executive John Walley. "If the OCR is increased it could further threaten any future export recovery,” Walley said.

"Comments from BERL back up results from our own survey, finding that the March quarter improvement in unemployment numbers masked the decline in jobs in our productive industries. Jobs in agriculture, forestry and fishing were down by 1,400, those in manufacturing were down 8,000, and construction employment dropped by 5,700 from March last year. These industries are the real drivers of the economy,” he said.

“If the OCR is raised prematurely we are likely to end up in the same destructive cycle we experienced prior to the economic crisis of an overvalued exchange rate stifling our traded sector and fuelling unsustainable growth in the domestic sector. Central Banks in Europe and North America have shown no inclination to move up their official interest rates and our Reserve Bank should take its cue from them,” he said.

“While the recovery remains fragile and significant international risks remain any rise in the OCR will do far more harm than good, and any signal about lower for longer will be of significant assistance to the real economy.”

My view

I've got a lot of time for John Walley and the NZMEA team because they're passionate about monetary policy and love a good debate. I especially welcome them on this site where they are active commenters. 

However, respectfully, I have to disagree with them on this. I reckon Reserve Bank Governor Alan Bollard should pull the trigger next Thursday and put up the Official Cash Rate by at least 25 basis points to 2.75%, just above the record low it has been sitting at for over a year. 

I think Alan Bollard was right when he compared himself last month to a truck driver taking his foot off the accelerator. Having the OCR at 2.5% is very stimulatory. There may not be too much inflationary pressure evident now but the Reserve Bank, rightly, needs to look a year to two down the track. 

There are plenty of signs around about a head of steam building in the economy. The National Bank's Business Outlook survey showed business' capacity utilisation is rising and an increasing number are looking to increase prices.

The prospect of consumer price inflation hitting 6% next year while the Official Cash Rate is still at 2.5% seems almost obscene. 

Also, non-manufacturing exporters are now looking at receiving record high commodity prices in both US dollar and NZ dollar terms. The New Zealand dollar's drop in the last six weeks is also likely to push some inflation through the economy in the form of higher import prices and higher prices of locally consumed products that can also be exported, such as meat, dairy and fish.

One other reason exporters should worry less about the coming monetary policy tightening than previous tightenings is that the Reserve Bank Governor has repeatedly said recently that the tightening will not be as severe or as fast as in the past. The last time interest rates were tightened aggressively was between January 2007 and July 2007 when they were hiked from 7.25% to 8.25%.

From hot to cold

This time around economists are saying the 'neutral' level of interest rates is likely to be around 5% rather than the 6% it was at before the Global Financial Crisis. That's because of the major changes in which the banking and global financial systems work. This is expressed most clearly in the way the Reserve Bank is using its new 'secondary' monetary policy tool -- the Core Funding Ratio (CFR).

During the housing boom from 2002 to 2007 when the Reserve Bank struggled to slow down the economy and was forced to keep ratcheting up the Official Cash Rate the banks were borrowing hand over fist overseas from the 'hot' wholesale money markets.

They were then shovelling that 'hot money' on to home-buyers in the form of cheap fixed rate mortgages. They were always cheaper than variable rate mortgages which were more connected to the Official Cash Rate set by the Reserve Bank. As the interactive chart for Housing credit below shows, banks were able to grow lending at over 10% for much of that time. 

But the collapse of Lehman Brothers in September 2008 froze that 'hot' money market and gave both the Reserve Bank and bank shareholders a heck of a fright. Now the Reserve Bank is forcing the banks to wean themselves off this 'hot' money by making them fund 65% of their lending from local and longer term savings, which is often more expensive. This is the CFR, which is scheduled to rise to 75% over the next two years.

To be fair to the Reserve Bank, the banks themselves are also looking to wean themselves off this 'hot' money so they are not put in the awkward position again of having to go cap in hand to the Reserve Bank.

The end result of this change in the way the banks are funded and regulated is a slowdown in credit growth, which can be seen in the charts below. This is helping to take some of the heat out of the economy and avoid a very quick and steep rise in the OCR. It also prevents an inwards surge in that 'hot money' capital that exporters are worried about. 

The coming monetary policy tightening will be painful for many, but not as painful for exporters as they have experienced in the past. 

Your view? I welcome your thoughts and comments below.