The era of low-to-negative "helpful" imported inflation may be coming to an end, Reserve Bank chief economist Paul Conway says.
Conway told a Commonwealth Bank Global Markets Conference in Sydney on Tuesday [by video link from Wellington] that the "biggest forecast error" the RBNZ had made around last week's reported September quarter inflation figures was in the imported, or 'tradeables' area. The RBNZ had forecast that annual tradable inflation would have fallen from 8.7% in June to 6.5%, but in fact it fell only to 8.1%. The overall inflation figure was 7.2%, barely down from the 7.3% reported in June.
"Tradeables inflation is usually our friend," Conway said.
"So, over recent history, recent decades, it has been low to negative across the globe and that’s for a few reasons. First, globalisation – a sort of slow moving positive supply shock has kept a lid on global prices."
Related to this had been the Chinese labour market "moving from farms in the west to factories in the east" and China being the workshop for the world. And there has been "favourable demographics across a bunch of countries", Conway said.
"But much of that is changing at the moment.
"In the first instance that’s because of the pandemic and associated supply shocks.
"But globalisation is also changing, demographics are changing and China isn’t the deflationary force that it once was.
"So, there’s talk in serious academic papers arguing that greater international inflationary pressure could be a theme going forward.
"Obviously, hopefully not as extreme as what we’ve been witnessing over the last year or so, but that era of helpful tradeables inflation may be coming to an end."
In terms of the the overall inflation figure, of 7.2%, Conway said the RBNZ had picked 6.4%, "so quite an overshoot there from what we were expecting".
The 7.3% inflation as of June followed now by 7.2% was an “unpleasant situation for all of us", Conway said.
In explaining why the figure was high, he said the NZ economy has “roared” through Covid. There was a very strong policy response, big government spending with ultra low interest rates. The health response was very good. Kiwis got good at using digital technologies as well.
Household balance sheets strengthened. NZers were saved during the pandemic.
"Even now there is still a good buffer there."
The labour market has remained “crazy strong”. Workers are difficult to find. Which has been a fundamental change for NZ businesses. The labour market has been a rock.
And migration. It fell off a cliff. Net migration still negative.
“This is another fundamental change in New Zealand’s economic model. Traditionally we have grown our economy, New Zealand businesses we grow our businesses by throwing workers at them, but that model is sort of looking less likely going forward.
“I think migration inflows are always going to be important and beneficial for the host country and for the migrant, but there are increasing signs that the days of very large inflows of low cost labour into the country may be behind us.”
On the inflation figure then, Conway said: "Obviously too high. But as you would no doubt expect from a central banker we expect to see inflationary pressures easing going forward. We are hopeful that it has peaked."
He said the "rapid tightening" in monetary policy, which has seen the RBNZ hike the Official Cash Rate from the emergency setting of 0.25% as of October 2021 to 3.5% now - and with more expected - "is starting to have an effect".
“There are early signs that the economy is starting to cool; That demand and supply in our economy are coming back closer into balance."
On the housing market, Conway said prices were down about 10% from peak - although by much more in some of the big centres. This was partly about higher interest rates but also other fundamentals such as slower population growth, looser zoning regulations against major cities.
"So, again, this is a big change for the New Zealand economy. Traditionally we sort of traded houses among ourselves at ever increasing prices thinking that we were creating prosperity – but that’s not what’s going on currently. We’ve seen a sort of reverse wealth effect, which should work to slow down consumption."
In tandem with this, Conway was seeing a slow down in construction activity, in what he described as a “boom and bust” industry in NZ.
"We’ve actually been building quite a few houses over the past couple or three years, which is great and part of the reason we are seeing this moderation in house prices, but there are lots of signs pointing to an upcoming bust – or at least a significant slowdown in construction activity."
43 Comments
Those who believe we could fight inflation by simply opening up our borders to more migrants are the worst offenders here.
Migration could, in theory, clamp down on the price-wage spiral but that also adds to the aggregate demand for items already in short supply.
"Traditionally we sort of traded houses among ourselves at ever increasing prices thinking that we were creating prosperity".
Who's the 'we' in this sentence. Sure wasn't me or many commentators on this site.
Politicians, bankers and weak media were the 'we'.
Are there any signs out there that anything has changed?
Yes, I baulked at that line too. There are plenty of strugglers out there who paid over the odds simply because they wanted to get a roof over their's and their kids heads, not because they had any wealth motive at play!
Kore he whakaaro mo te hunga e tukinotia ana, Mr Conway!
I was one of them but, as many will know, sold out early this year noting that inflation was very much not transitory and the "everything bubble" was concluding. We have crossed the demographic Rubicon in many OECD countries, we have fewer workers per consumer making labour increasingly scarce. Companies should start to hoard good workers.
Well...the folk who voted for those politicians. The folk who ranted and screeched against any measure that might rebalance the economy toward productive work, e.g. CGT. That entitlement mentality to getting rich from driving up house prices and saddling following generations with ever larger debts has brought us here.
John Key even called it. He identified that a CGT is perfectly fair, but voters' entitlement mentality makes it hard to bring in.
CGT is only one example, of course.
It is good to see the RBNZ's chief economist at last understands some of the forces at play and how 'NZ's world' has indeed changed. It has been apparent to some of us for quite some time.
Interesting that he said those things in Australia rather than here in NZ.
I think in line 4 he was referring to 'error' and not 'era' as described here. This is a transcription error. However, the use of 'era' in line 1 was correct.
KeithW
It is good to see the RBNZ's chief economist at last understands some of the forces at play and how 'NZ's world' has indeed changed. It has been apparent to some of us for quite some time.
All very topline stuff. He does talk about the 'reverse wealth effect'. But I wonder if he really understands what that means after a life working in bureaucracy and banking. To understand this properly, you need behavioral economists who know how to model how people allocate share of wallet and its impacts across the economy. F'more, Paul is a nice guy but for all his rhetoric about tech, I'm not sure he understands the environment welll and the deflationary nature of tech in modern societies.
J.C.,
I agree with you that when the world is heading in new directions it is important to have economists who understand 'boots on the ground' human behaviours. When behaviours change, the econometric models no longer work. Too many economists are isolated from the real world.
KeithW
One of Michael Reddell's ongoing themes about Orr's 'leadership' is the almost complete lack of published research and expert comment. The implication is of course that any contrary opinions, results, or indications are outside the Overton Window of acceptable discourse.
So Conway's comments, at an overseas meeting, with an obvious implication for past and present RBNZ policy, are no surprise. It's the only safe place to do so.....
Cohen articulated this decades ago: Anthem:
"There is a crack in everything
It's how the light gets in."
his comments arent aimed at us but for a global audience,he was pointing at china but they would be looking at him,after all he is taking the money for being our chief economist and its right he should be fessing up for their policies that enabled an inflation blowout.
We're miles off on becoming more productive as an economy.
The government having to urgently relax median wage requirements for a bunch of low-paid sectors to bring workers into the country tells us how low productivity ranks in the list of national priorities.
Then the opposition argues the migration gates aren't open far enough to let in more - we're the going to become the next South Africa!
If there's an economic case for technology to increase productivity, it'll happen. There are whole sectors of industry dedicated to seeking out, sourcing and implementing new technologies.
About 2/3 of employment in NZ is in the service industry. We can already see technology replacing lame jobs and replacing them with more fulfilling employment. Now the checkout ladies are all redundant, but have moved into newer, exciting roles overseeing customers operate the self checkout kiosks.
Now that they cannot control inflation which has gone out of hand, reserve banks are and will try to fib another story to support their narrative just like they coined Transitory Inflation.
Will not be surprised if defination and basis of inflation is changed for convenience. Goal
Wait and Watch. Goal post will be shifted or / and the rules of the game to protect the very existence of RBNZ.
Interesting. It would be great if RBNZ just came out and said, "Sorry folks, some of the stuff we buy in NZ is going to cost more than before because OPEC are screwing the world, China isn't providing as much cheap labour, companies are profiteering, and we're putting up the cost of credit to keep up with the Fed and protect the dollar... We can't do anything about it really - write to the Minister of Finance and ask him whether Govt has an economic strategy."
I think in a parallel universe he said.
'We at RBNZ wish to apologise unreservedly first for incorrectly identifying inflation as transitory when in reality it was obviously the start of a frightening trend, unfortunately the strategy of the RBNZ during and before the pandemic in dropping the OCR way too low and holding it there too long, together with massively over printing money - has created a massive and risky house price and asset bubble and too much demand. This was predictable - and was predicted by many but unfortunately not by our highly paid economists who were busy living it up - and now is likely to hit our economy and likely impact the working and mìddle class the most some of whom will struggle to feed themselves (though i recommend cakes)
We apologise for only working slowly now to fix it.. but its been a busy year of holidays for us rich lot and (liek rishi sunak in uk) we dont see many real poor people let alkne have any idea how they struggle.. and now we deserve a nice xmas break.
We will have a go at putting the ocr up another 5 points before xmas and after the NY parties and a few weeks on the beach will check in and see if anything changed.
If you need some cash beforehand and really struggle maybe ask Robby for a few bucks a week coz of the cost of living crises.. he needs som votes and doesnt really get the whole economic thjng either :)
Gotts shoot.. some banker mates want to talk about rbnz helping meet theit targets for next year...tesla, maldive flights and champers are getting more expensive apparently.
Nifty1,
Perhaps, but what happens if we get a serious global recession? Europe/UK are surely facing that, China has big economic issues to deal with, so can't be the 'engine' of growth it was last time round and the US yield curve remains negative.
My crystal ball remains cloudy, but my money is on a deep recession. if so, watch interest rates fall quickly again.
So many people borrowed way to much now rates are back to normal and probably going higher and will be with us for years. When you have a mortgage for 300k this is doable with higher rates but so many have purchased at ridiculous prices million plus mortgages have been taken only a matter of time before defaults start to occur.
Traditionally we have grown our economy, New Zealand businesses we grow our businesses by throwing workers at them, but that model is sort of looking less likely going forward.
National and Labour will fight tooth and nail to keep lowering that bar. Without low wage workers we'd need to modernise our economy.
I'm super close to Ag. Many elements have been mechanised already, but there's a layer of manual labour (mostly pruning) that is far harder to mechanize. Once there is a solution, it'd likely require significant changes to how the crops are grown. So it's probably a few decades till we see large amounts of existing remaining human function in our agriculture sector supplanted by technology (you need at least 5-10 years to grow new trees/plants).
In the meantime, assuming the country wants the revenue, humans are needed.
While it's a nice notion that we just replace migrants with machines, it's a hell of a lot easier said than done. Otherwise it'd already be happening, because any employer in their right mind would want to ditch the headache that is human employees, as soon as possible.
Useful article Mr Conway, thank you.
Agree, we are importing inflation. Shortages in people for picking and processing roles, production is being hampered and labour rates are increasing significantly.
There is a very real cost to moving away from using people to mechanisation, not all businesses are able to make that investment step, albeit it is inevitable that they do so.
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