Questions are being raised over the amount of rocket fuel cutting interest rates will inject into the economy.
Lowering the Official Cash Rate (OCR) has never been a silver bullet for spurring economic growth, but Kiwibank chief economist Jarrod Kerr, and to a lesser extent, ANZ senior economist Liz Kendall, see limits to the effectiveness of cutting in the current environment.
What are the headwinds?
Reserve Bank (RBNZ) Governor Adrian Orr, when he announced on March 27 the next OCR move would likely be down, referenced the “weaker global economic outlook and reduced momentum in domestic spending”.
“The global economic outlook has continued to weaken, in particular amongst some of our key trading partners including Australia, Europe, and China,” he said.
“This weaker outlook has prompted central banks to ease their expected monetary policy stances, placing upward pressure on the New Zealand dollar.
“Domestic growth slowed in 2018, with softness in the housing market and weak business investment contributing.”
Business confidence also plummeted when the Coalition Government was elected, and has struggled to rebound.
This stems in part from uncertainty over possible tax changes and government spending.
Businesses are also struggling to pass on the cost of the higher minimum wage, hampering their profitability, and they’re hamstrung by capacity constraints and credit availability.
Will rate cuts help?
- Kerr
Kerr doesn’t believe a rate cut will directly address these issues.
Furthermore, while cutting will lower servicing costs for those with debt, it’ll reduce the income of the large number of New Zealanders with savings.
The thing it will achieve is providing stimulus ahead of time.
This is important as the protectionist movement underlying the US/China trade war and Brexit is seeing markets price in a greater probability of a recession in the likes of the US next year.
The pinch for Kerr is, the lower the OCR, the less bang you get for your buck with every cut.
Because the OCR is already at a record low of 1.75%, diminishing returns mean the RBNZ will have to make at least two cuts for these to feed through to lower lending rates.
As soon as Orr shocked markets by announcing his very dovish position on March 27, Kerr turned his OCR outlook on its head.
While he had thought the next move would be a hike in 2021, Orr’s tone prompted him to forecast two cuts this year, starting in May. He maintains there’s also a 40% chance of an additional two cuts in 2020 to bring the OCR down to 0.75%.
Kerr doesn’t believe the economic outlook has become that much more dire since the RBNZ previously reviewed the OCR in February to justify its dramatic change of tone.
His forecasts therefore reflect him “playing the man, not the ball”.
He says the RBNZ has “loads” of ammunition, should it need it.
“You can take out 50 basis points worth of insurance now to try to stir a bit of activity over the next year.
“And if things really do deteriorate next year, you’ve still got quite a bit in the tank that you could do. You could keep cutting, but the more you cut from here, the less impact you have.”
- Kendall
Kendall, who since the end of 2018 has been forecasting three OCR cuts by 2020, has a slightly different take.
Rather than suggesting we’re reaching a point where lower interest rates are going to stop working, or become materially less effective, she believes the reality is that lower rates are simply the new norm.
She maintains cutting the OCR will give businesses confidence in consumer demand strengthening.
While this will be seen through higher household spending, it will also weaken the dollar, boosting demand for New Zealand exports.
Kendall accepts you need lower rates than you're used to, to get people spending. However, she sees the market making a textbook response to an OCR cut.
The spanner in the works is around the availability of credit.
“It’s not just the price of credit that matters, it really is the quantity that’s available. If businesses can’t get credit at any price, it won’t help,” she says.
Kendall notes that since the start of 2016 banks have tightened the amount of credit they’ve made available. While they’ve started loosening a little, the RBNZ’s proposals to require them to hold more capital could exacerbate their conservativeness.
“But to the extent it might be cheaper, that does certainly enable them to get business done.”
*This article was first published in our email for paying subscribers early on Friday morning. See here for more details and how to subscribe.
23 Comments
Those FHB who bought but were required to borrow high will be pleased as being able to service and get on top of the mortgage will be likely ensured in the medium term. I wouldn’t be holding my breath for lower rates when the term rolls over and would be paying debt down as much as possible while conditions remain favourable.
Reduction in OCR - with likelihood of positive effect on mortgage interest rates - will provide some support to the housing market as well as exporters with a lower than otherwise $NZ. The RBNZ still have potential for LVR cut especially for investors if any correction to housing market is more than desired for maintaining stable economy. I would be listening to Adrian Orr who sees a flattish housing market in the medium term.
Potential FHB should be giving consideration to buying over the winter seasonal downturn provided they can service the mortgage while interest rates remain favourable in the short to medium term. Short term fluctuations in the market are inconsequential for those being homeowners for the long term.
As for those pensioners who retired 5 to 10 years ago having saved a nest egg (largely without the benefits of KiwiSaver) that they expected to invest securely in term deposits, well you will already will have experience returns of about half that you what you would have expected from your experience 1980 to 2010 during your working life. Unfortunately you may need to look at cutting sme if any luxuries such as Krispie biscuits.
On balance, cut in the OCR for stable economy, exporters, support for the housing market, and mortgage holders is a desirable.
How low will the NZD go and how much will that make petrol a litre? What will the people do when it hit $5 a litre? Yellow jackets? I suspect politicians will get less and less respect, as will all aspects of government. Hard to see what form the backlash will take here. The Yanks elected an outsider as president. The English voted for Brexit. The French wear yellow vests, either at roundabouts or by throwing cocktail parties in the traditional French fashion ( ie the style the Finns dubbed The Molotov cocktail)
... the new format looks OK ... but there is such a long delay now , in the time taken for a comment to be cleared and uploaded ... we've lost the fun element here , the pleasure of commenting and countering has been utterly lost .... no quick replies and responses ... sadly ...
Yes , I understand that one or two may overstep the mark in their comments ... but why punish all of us , for the sins of a tiny minority who can't be civil to fellow bloggers ...
The website looks great, although the new format makes it difficult to tell whether an article has new comments or replies since last viewing. When I first signed up with the website, each new comment in an article would have the word "new" in red next to the date. This went away for some reason, but at least you could see how many new comments an article had from the News page underneath the link to the article. As far as I can see there's currently no way of telling with this new format.
R W,
But how low will our $ go? we will not be alone in cutting rates and not all currencies can fall at the same time,so is it not possible that the NZ $ will not actually fall very far?
Brexit has precisely nothing to do with the position of Sterling,as you must know,any more than France's gilets jaune or the election of Trump. getting 3 out of 3 wrong is in its way,impressive.
Less income from savings, or that income no longer able to support the original budget. For the elderly that might mean forgoing doctor visits, reduced home heating, even a lesser quality diet. Cumulatively, that has potential for quite some negative impact on our health system, one would think.
Superannuation is linked to CPI and average wages which means it grows faster than inflation. I wouldn't enjoy living on it without my savings and my wife working but survival would be possible. NZ has a generous and sensible system. The age of entitlement ought to be linked to life expectancy otherwise we may bankrupt young working New Zealanders.
With inflation still in the 1.5-2.5% band for those of us who buy real stuff, not hypothetical baskets, cuts in the OCR will inevitably lead to three things:
1 - more imported inflation if NZD falls. This will be seen most obviously on imported goods, food (which all has a significant transport and hence imported fuel content - them Potatoes don't get to yer local supermarket on cargo bicycles...), commuting, and the list goes on.
2 - less income for those dependent on TD's, conservative-setting KS arrangements, and like income streams.
3 - movement to higher but riskier yields for anything from personal savings destinations, to entire KS scheme settings, as 'safe' schemes will appear like certain loss-makers after inflation and tax. This increases the systemic risk to the economy - the likelihood of defaults, capital loss and the resulting social effects.
The ZIRP/NIRP train is a'chuggin on a track near You.....
Good comments here. Savings used to be a reliable source of income for savers. Now it's all shares and currency. But those are technical and volatile and no good for oldies. Assett prices are now so high they bare no resemblance to incomes or earnings. The risk then is that assett prices fall and interest rates fall. That is a recipe for spending to fall...
... do we think that the rate cuts which have aided the NZ property bubble to reach it's nose bleed levels , forcing FHB's to despair and to extreme actions , have not worked well enough in enriching an elite group of very wealthy people in our society ?
Is it wise to keep up the charade that an economy can be built sustainably on massive debt , and on eternally rising house prices ...
... and the signal we're sending to millennials ... to those entering the work place : Saving is for suckers ! .... smart people borrow as much as they can , property is backstopped by the NZ Reverse Bank into only ever going up ...
Can you share with us where these offshore unicorns preserving the value of their currency are? In Europe, UK, US Japan central banks own up to 40% of total sovereign debt, not to mention also repo-funding trillions of other securities. Interest rates are negative in Japan, Switzerland and Europe. All also have trillions in un-funded pension liabilities off balance sheet and most have negative term real interest rates as well. Australia & NZ are growing only due to migration but still look positively virtuous in comparison. Anyone looking to central banks to preserve the value of their cash is a fool.
"But what will cutting the OCR from its record low actually achieve?" It will achieve what it always achieves. Inflated asset prices, a move further away from productivity to speculation, errosion of the value of savings and income from regular jobs and an increased level of personal debt. But hey, as long as we expand the money supply we can say we're growing right??
The direct controlling of volume of money did result in hyperinflation in 70s. Now, the indirect effort to control money has resulted in crazy credit growth and asset price inflation (instead of consumer prices and wages).
The real problem is that in both cases (i.e. direct control of credit supply and controlling the interest rate), the central bank is not a truly impartial and indifferent "balancing" force. The QE is a clear example of trying to artificially inflate things to create an artificial wind to propel the economy ship forward artificially. How long this can be sustained?
It's almost as if centralised control of money directly or indirectly doesn't work....
We are to imperfect as humans to expect systems with centralised control structures to be fair, balanced and with out bias or ulterior motive. That's why money wasn't designed that way originally.
When the RBNZ announced likely rate cuts I understood they were saying recession is on the horizon so stimulate with an OCR reduction-conventional wisdom that has worked historically. I reckon initial OCR cuts will work short term but looking back to as far as the 60s it has required cuts of 3-6% to reverse a recession and neither NZ or any major capitalist country has rates in excess of 3% so what is plan B - remove cash/create a crypto currency or suffer the pain?
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