By Bernard Hickey
The Reserve Bank has signalled further cuts in the Official Cash Rate (OCR) are likely after it warned the 6% rise in the New Zealand dollar since its last OCR decision on June 9 was making it hard for the Reserve Bank to meet its 1-3% inflation target.
It said a decline in the currency was needed.
The New Zealand dollar dropped just over half a cent to 69.7 USc and economists said the dovish statement made a 25 basis point cut in the OCR on August 11 almost certain, along with the potential for more later in the year. Kiwibank's economists said OCR cuts below 1.5% were possible.
The Bank, rather than Governor Graeme Wheeler, said the prospects for the global economy had diminished since June 9 despite very stimulatory monetary policy and low oil prices and there were many uncertainties about the outlook.
"The trade-weighted exchange rate is 6 percent higher than assumed in the June Statement, and is notably higher than in the alternative scenario presented in that Statement. The high exchange rate is adding further pressure to the dairy and manufacturing sectors and, together with weak global inflation, is holding down tradable goods inflation," the bank said.
"This makes it difficult for the Bank to meet its inflation objective. A decline in the exchange rate is needed." it said.
The bank noted house price inflation was excessive and had become more broad based, which added to concerns about financial stability. It noted its plans for strong macro-prudential measures to control those risks.
The bank then cited annual CPI inflation was 0.4% in the year to June.
"Headline inflation is being held below the target band by continuing negative tradables inflation. Long-term inflation expectations are well-anchored at 2 percent, but short-term inflation expectations remain low," it said.
"Despite rising capacity pressures and some recent increase in fuel prices, the stronger exchange rate implies that the outlook for inflation has weakened since the June Statement. Monetary policy will continue to be accommodative. At this stage it seems likely that further policy easing will be required to ensure that future average inflation settles near the middle of the target range."
The New Zealand dollar initially dropped almost half a cent to 69.7 USc, which was its first time below the 70 USc mark since late June, but still well above the 67 USc seen before the Reserve Bank's June MPS.
The bank may be disappointed by the relatively timid initial market reaction, although the currency has fallen from 73 USc since the bank signalled this statement would be made.
Economist reaction
ASB Senior Economist Jane Turner said the Reserve Bank had strengthened its easing bias in the statement by saying an easing was likely.
"More importantly, the RBNZ made very strong comments about the strength of the exchange rate and how it “makes it difficult for the Bank to meet its inflation objective”. The RBNZ explicitly stated a decline in the exchange rate is needed. This suggests the RBNZ has opened the door to OCR cuts below 2%, a move the RBNZ had previously indicated a very high threshold for doing so," Turner said.
"The RBNZ has previously been reluctant to cut interest rates further due to financial stability risks. This week’s proposed tightening of LVR restrictions helps them on this front," she said.
Westpac Acting Chief Economist Michael Gordon said recent statements by the Reserve Bank had left the market with the mistaken impression that the strong housing market could prevent interest rates being eased further.
"Today's statement was clearly arranged to dispel that view, and to reassert that meeting the inflation target remains the RBNZ's primary duty," Gordon said.
"We have maintained the view that the OCR would be cut to 2% in August, and today's statement seals the case. It also seems likely that the AugustMPS will leave the door open to further interest rate cuts if the currency remains elevated," he said.
Kiwibank's Economics team said they still expected another 25 basis point cut on August 11, but it now expected the Reserve Bank to cut the OCR by another 50 basis points to a terminal rate of 1.5%.
"In addition, there is a risk that the OCR may even need to be cut further if the NZD does not respond to further OCR cuts - as highlighted in the downside scenario in the RBNZ's June MPS," Kiwibank's economists said.
ANZ Senior Economist Philip Borkin said the Reserve Bank's statement effectively signalled a return to a Monetary Conditions Index (MCI) focus, "and opens the door to additional monetary policy easing."
"Together with the latest LVR limit proposal, the RBNZ appears to have gone into full attack mode in an attempt to tackle some of the considerable tensions it is facing," Borkin said.
"Admittedly, we’re not convinced the economy actually needs more easing right now (at the margin we think capacity is being eaten into faster than the RBNZ assume). But by the same token, inflation remains too low, and we acknowledge that rate cuts are coming. Global interest rates are plunging, and in a world of currency divergence (from fundamentals), interest rates ultimately need to converge," he said.
"The signal from the Bank today is that an August OCR cut is very likely; as is at least one further cut beyond that (our current forecast is February). But for the market to push a more aggressive easing cycle beyond that we need to see concrete action from the RBNZ, as well as evidence that the domestic data flow is turning and macro-prudential tools are biting. That may be some way off yet."
BNZ Head of Research Stephen Toplis said he was sticking with his view that the RBNZ wouls cut in August.
"The market has also fully priced in a second cut by February with the possibility of one more thereafter. This is now very close to our own view. However, if there is to be a second cut it is highly unlikely the RBNZ would wait until next year to do so," Toplis said.
"The RBNZ has shifted from “further policy easing may be required” when it produced its June Statement to “it seems likely that further policy easing will be required”. It doesn’t get any clearer than this," he said.
"Formally, we have November penciled in but a further reduction in September is a real possibility as, indeed, is the possibility of even more."
(Updated with more detail, reaction)
50 Comments
1st comment, rather than creating jobs for Kiwis, import cheap labour........
2nd; exactly as JK wanted when he suggested investors should look to the regions, rather than AK.
I have a more wide ranging question; many of these articles, and multiple commentators are saying or suggesting that the current economic times are not following conventional wisdom or theories about the results of controls that are being imposed. Could this be a wider unintended consequence of the "free market" economies where at the extremes, unexpected behavioural characteristics become manifest? Sorry fairly clumsily written, not really sure how to express the question.
you expressed it well. Let me answer: the consequences and outcomes were very intended. Rising inequality, annihilation of the middleclass have always been the target of neoliberal economist, they just framed it in a way that the middleclass thought it was a good thing for them.
In short no. Some commentators still abide by Malthus' Theory of Population growth and cannot fathom that production may increase, and consumption decrease in a more efficient world so that inflation may be subdued. Lowering interest rates and making money cheaper does not necessarily equate with inflation in such an environment.
The exclusion of real property (rightly so) from the CPI also makes monetary tools look less effective. The current action by the NZRB is to push money away from housing; but in a world with few investment opportunities that is proving difficult.
Negative interest rates could be on the cards (I can hear the baby boomer deposit holders gnashing their teeth already:)
Sorry, but that is rubbish. Making money cheaper of course ......equals inflation. And to then purposely ignore the actual component of where that new funny money is going just makes a mockery of the economic equation.
NIRP just highlights the absurdity of a failed monetary system
Yvil,
What I think he means is that in conventional economics and here I quote Milton Friedman: "Inflation is always and everywhere a monetary phenomenon, in the sense that it cannot occur without a more rapid increase in the quantity of money than in output".
In recent years the quantity of money has increased hugely through QE, but there has been no correponding increase in inflation. Indeed, it has kept falling. Why? Well, I believe that part of the answer can be found by looking at the US, which had the biggest QE program. The link between Federal Reserve bond purchases and the subsequent growth of the money stock changed after 2008 because the Fed bagan to pay interest on excess reserves. The interest rate on these totally safe and liquid deposits induced the banks to maintain excess reserves at the Fed instead of lending and creating deposits to absorb the increased reserves, as they would have done before 2008. As a result, the volume of excess reserves held at the Fed increased dramatically from less than $2 billuion in 2008 to over $1.80 trillion in 2013.
What many miss in the low inflation story is that it has been declining for a long time. In NZ, it started to fall after the reserve Bank was given an inflation target in 1990 and in the UK and the US, it has been in decline for longer. This is a structural, not a cyclical change and has to do with globalisation, technology, lack of union bargaining power, rising inequality, as well as the success of inflation targeting.
Conventional wisdom is founded on there always being an increasing supply of easily-extracted, high-quality oil being available (which is, of course ludicrous position to adopt, but having adopted it for such a long time, mainstream economists and politicians cannot back down).
We ARE living in unprecedented times because the peak of conventional oil extraction was over 2005 to 2008, and since then the global economic system has been propped up by unconventional oil, which is expensive to extract and much of which tends to deplete very quickly. There is a HUGE difference between operating a system when the energy supply can easily be increased (1860 to 1990) compared to operating a system when the energy supply cannot be easily increased (2005 on).
We are effectively living in a post-peak-oil world, which implies ever-greater difficulty in operating the globalised economic system until 'something breaks'.
https://www.theautomaticearth.com/2016/07/the-peak-oil-paradox-revisite…
Additional to the energy predicament, there is the burgeoning debt predicament: at historically normal rates of interest in the range 3 to 7% most organisations would not be able to service current debt levels. ZIRP and NIRP have delayed the 'exploding debt' day of reckoning.
Add to the above deadly mix the continuing growth of population and increasing levels of pollutants in the environment (especially CO2 and CH4) and it is clear there is no way put of the predicament via business-as-usual.....which is why politicians and economists avoid discussing the fundamental issues like the plague.
Interesting two very different "Nos" . One that we, the middle classes were blind sided by propaganda, and two that the effects we see today are entirely predictable if you pick and choose which theorist you follow, and what tools to apply.
As a BB I don’t like the thought of negative interest rates, as I see that as the Banks breaching their most basic contract with their client base. I suggest that negative interest rates are instead intended as a tool for governments to stimulate growth. That is Governments provide or release money to the central bank with a direction that it be used specifically to stimulate growth, thus it must be directed. Current applications of this approach (QE) has been of the shotgun approach with no direction in the misguided hope that some growth may fall out. Problem is I see no signs of any constructive thinking or application of effective tools.
JM Keynes did not take into account GFC, TBTF, Baling the Banks, QE,Constant wars and migration of refugees across the globe and One Percenters Rising. And Black Swans both natural and unintended and manufactured and intended.
We need some new practices, which economists may examine whether will work in theory too.
How about for something different we move away from the all or nothing approach. Governments, academics, professionals and the rest most commonly seem to be extremists in their theorising, and debating about what to do. For example I have suggested for almost two years now that an effective control in the housing market is to put a control on rents that is affordable for anyone on a basic income. Most responses discount it, some quite bluntly as won't work, because it will cause a major collapse of the economy. but I simply cannot see why this collapse will occur. this may be due to my limited understanding and knowledge of the picture, but when I critically consider any reasons given, i can only see extremism. an examply being Nymad last week suggesting that all properties will assume the rate at which the cap is set and that couldn't be fair because a one bedroom apartment in the CBD would be the same as a 10 bedroom mansion in the suburbs. My position is initially yes, but very quickly the market and people voting with their wallet will quickly re-establish a market variability at that level of pricing.
Bottom line is for all Governments to accept that their role is to regulate to protect the majority of the population, those they actually expect to vote for them at any election, and thus they ae expected to regulate to protect that majority's security, standard of living, access to education and health care and so on. By just acting to protect the wealthy and believing that "trickle down" actually works they are effectively betraying their constituents.
thus balanced Government regulation is required.
Your suggestion is effectively wealth transfer from the landlords to the tenants. It is a form of communism which history has shown is inefficient and creates broken societies (Venezuela anyone). If you believe your idea has merit I would suggest you establish/join the NZ Communist Party and run Government at the next election.
Financial market volatility increased following the UK referendum and long-term interest rates have fallen.
"Unintended" consequences, I believe otherwise, are far reaching in term of costs to taxpayers in Europe.
When the ECB buys government bonds with implicit negative yields, it pays a very high price that allows the banks to obtain a riskless profit represented by the negative rate. According to the PSPP rules, the liquidity freed by the sale of the bonds is parked in the deposit account and charged at the -0.4% rate. In this way the banks are paying a rate that is lower than -0.4% since the ECB is returning via the PSPP purchases part of the “toll” gained through the deposit rate. Now it’s clear why the ECB cannot purchase bonds that have a negative yield lower than the deposit rate: the ECB would be returning to banks an amount greater than what the banks pay and this would correspond to an outright transfer of financial resources towards the banking system that the ECB should account as a loss..
Already in ordinary times, this mechanism has encouraged the Eurozone banks to stock up Bunds, in the perspective of taking a riskless profit from the PSPP trades by selling at rising prices (a strategy of frontrunning). But if prices rise, yields decline; then high demand inevitably pushes an increasing share of bonds below the ECB deposit rate, making them ineligible for the PSPP. The ECB is then forced to readjust the limit at a lower level in order to enlarge the pool of eligible assets; from March 2015 this behavioral scheme has already repeated itself twice, with a first deposit rate cut in December 2015 to -0.3% and a second move in March 2016 that has set the threshold at the current value of -0.4%. The privileged status of safe haven enjoyed by Bunds goes with the downward pressures on yields in every phase of a bear market, as traders shift liquidity from risky assets towards government bonds. Read more
The statement does not directly say that dropping interest rates is the only form of easing that they are contemplating, although I assume it probably is the only one. If it is the only one, and their prime objective is to lower the exchange rate, then they might as well get interest rates pretty close to zero very quickly, such that there is no differential in international interest rates. Zero interest rates of course keep the house price pump going full bore.
Far better in my view that they contemplate some other easing tools that would not lower interest rates. There are some obvious such tools, although they would need the cooperation of Key and English, and it is not clear that would be forthcoming.
they will never agree to slowing immigration to 15 to 20K as it would show up how fragile the economy really is.
the other option is borrow and spend then they would also look folish.
me thinks they painted themselves into a corner a while back and might be hoping for another world event to (blame) sort it out for them
Do you mean like War or global Bank failures - Italy,s Bank are insolvent with non performing loans at 20% of Italy's GDP the Banks capital is exhausted, ditto Deutche Bank - share price -90% in 5 years, the market knows this but not reflected in prices and ratings so there is another agenda. When the *hit hits the fan we should remember who was responsible and house them in a very secure place for a very long time.
There is still plenty of cash deposits just waiting for a place to go Caleb. Particularly for FHB's, but that money won't be going anywhere until a significant drop (in 'home' prices, note I say "HOME") occurs. The turn around could happen very fast if what we both say is true. Investors will look to non bank lending in desperation of course, and they will find it.....at much higher interest rates. They will try to increase rents to the max, but will lose good stable tenants in the process...
I don't think its immoral speculating on currency. A good chunk of the world is on the other side of the ledger.
The really bad one was South Canterbury Finance. Investing in that company for a few extra percentage points in the knowledge that that was govt guaranteed was criminal in my view. (In hindsight). Sure it would have been hard to determine that these incoming dollars were being thrown away. Anyway, I'm glad that I have a clear conscience on that one. I just couldn't invest in a company like that.
Should also introduce Loan to Income tool along with LVR .
Government should also do its part but saying that is no use as everyone who wants government to act, including Governor of RB, CEO of ANZ and all other experts in the field are fools except people in National Party headed by JK.
He's continuing to play chicken with Key & the National Government! Good on him. He knows the OCR has no meaningful impact on borrowings for housing (or inflation). The Big 4 own 87% of home loans & they borrow from their parent bank(s) in Oz who then borrow offshore for 0%. They're in a "funk" because Market intervention opposes National Party ideology. The only way that the changes needed to avert the damage is a change of government in 2017, a Capital Gains Tax, Stamp Duty and IRD enforcement of the 2yr buying & selling CGT rule & all the above....meanwhile 33,000 houses sit empty in Auckland, "Ghost Houses" they're called. And the National Government say what? Oh the owners are in-between tenants?!
Yes RBNZ have increased the LVR and should also include the Loan to earning like in London as than will be totally up to government to act as than will have nobody to blame or may be knowing national, will fill find excuse and reasons to blame and stick to their policy of NO ACTION.
One has to give credit to National government for being consistence with their their policy of not acting to curb speculation, specially Non resident buyers - Come what may.
What an attitude. Positive or Negative, leave it to the experts.
Firtz, Government too knows what we all know but why will they act as the basic purpose of national government ti to support and work for the benefit of their foreign friends.
Otherwise, one has to be stupid to not see and understand what everyone knows.
Go to any Auction or am sure many will have access or friends in estate agency office and experts can do a small sample survey selecting few office to get the result - specially in Auckland.
I really wonder if they are on the right track thinking that lowering the OCR will stimulate inflation. We have years of this world wide and only have asset bubbles and increasing wealth disparity to show for it. Look at Japan, it has been in this hole for well over a decade, if not two. I remember that an ex NZ Reserve bank ecconomist, who developed the inflation/OCR model, said on this site a month or two ago that it was time that economists stood up and admitted that lowering the OCR was not the answer, It certainly will affect the exchange rate but will also add fuel to the housing bubble. Raising the capital requirements of the bank share holders could achieve the same benefits without lowering mortgage rates and have the added benefit of buttressing the banks to withstand future shocks.
The biggest problem I see is the banks are not passing on the rate cuts, or at least not all of it and the reaction times to do so can be described as slow at best. Do the banks really need to comply at the end of the day ? looks more like a Cartel to me, they follow one another and only when they have to,do they make cuts.
So, Wheeler believes that the $ is too strong and Must come down. Now where have we heard that before? To quote from the Reserve Bank's March '15 statement, "On a trade-weighted basis, the NZ$ remains unjustifiably high and is unsustainable in terms of NZ's economic fundamentals. A substantial downwards correction in the real exchange rate is needed".
Can he really believe that 1 or 2 rate cuts is going to magically push inflation from its current level of 0.40% to around 2%? If he does, he's in LaLa land. In his defence, it's not really his job to deal with the property market. That is the Government's job and they they have make an appalling mess of it. By refusing to admit that there is a crisis, they have painted themselves into a corner, just as they have done with the retirement age. When I heard that there was going to be an Infrastructure Fund I cheered, but then I found that it is a miserable $1Bn, when it should have been at least 20 times that.
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