By Roger J Kerr
When future movements in financial markets become “sure bets” one starts to get worried about the risks surrounding the consensus views and pricing.
Such is the case with our short-term interest rates with 2.00% of increases for the Official Cash Rate already well-priced into the market two and three year swap rates. The risks to the “sure bet” revolve around the Reserve Bank of New Zealand being forced by the weight of evidence to increases interest rates earlier and higher or alternatively lift the rates at a slower pace than what the market expects.
I would favour the latter as the greater risk as I doubt that the NZ economy is going to perform over the next 12 months in excess of the already hyped-up expectations currently dominating the sentiment.
Therefore, what are the risks or economic/market developments that could force the RBNZ to re-assess and adjust to a slower pace of OCR increases?
• Wholemilk powder prices decreasing at a much more rapid rate than currently expected across the dairy industry.
GDP growth would be below forecast if dairy prices plummeted, however the NZD/USD exchange rate would follow and partially offset the negative impacts in terms of rural incomes. Fonterra will have sold forward next nine months of wholemilk powder supply and hedged the currency as well. So a delayed impact, however nevertheless a significant negative for the overall economy. A much lower NZD/USD exchange rate would increase tradable inflation, so the RBNZ would have to be careful about pulling back on OCR increases.
• A reversal in the direction of house prices caused by increases in mortgage interest rates having a more pronounced impact on the property market than what most envisaged.
The LVR restrictions have already slowed the number of house being sold this year, which tells you that buyers are prepared to be patient and are less concerned about prices running away on them. Over time, sellers, if they are serious about selling, will adjust their price expectations lower. No different to any other market really.
• The global economy encountering more humps in the road in terms of GDP growth and thus demand for what we produce in New Zealand.
Global economic risks are centred on Chinese growth slowing at a much slower rate than generally expected. Over the weekend a major Chinese solar power equipment manufacturer, Shanghai Chaori Solar, defaulted on interest payments on its domestic bonds, which might be something of a test-case to see to what extent over-leveraged Chinese companies are rescued by Beijing. So far, there is no sign of any Government bail-out.
A 0.25% OCR increase this week is a foregone conclusion, however attention will be on the updated RBNZ economic forecasts and to what extent those upbeat numbers are tempered by the risks such as the three listed above.
-----------------------------------------------------------
To subscribe to our daily Currency Rate Sheet email, enter your email address here.
No chart with that title exists.
Roger J Kerr is a partner at PwC. He specialises in fixed interest securities and is a commentator on economics and markets. More commentary and useful information on fixed interest investing can be found at rogeradvice.com
6 Comments
We are not the only people producing milk powder , Eurozone countries have the twin benefits of excess supply and a weak Euro .
We have a currency that is doing us no favours
I had to read the article twice to get a better grasp of what Roger is saying , and he makes some sound logical observations .
I dont think our Economic Fundamentals have improved to the extent we believe and the good news is priced in already
You are correct IMHO.
a) They are not, or at least they are not "experts" on the new paradgym IMHO. Plus they have an economic view (read blinkers) that cant handle the zero bound trap plus a disposition to be inflation hawks...plus right wing view points (for want of a better description).
b) Other central banks, corect, except NZ has not suffered a major housing meltdown...plus as we are a risky currency keeping the OCR high attracts cheap Fed money, this keeping our houseing market afloat.
c) 200bps, see sweden for how well that went.
I agree on your other points, except Dr(?) wheeler shows signs of being more astute. However if I was him I'd raise 25 basis points just to frighten ppl....the stupid ppl who are speculating. Of course then he has to back that out, loss of credibility. Hence why I'd only do 25basis points....no biggee either way.
regards
If the milk product industry is going well for a change, then won't pushing up the OCR in response destroy the value of all that good work?
How then are people supposed to pay off and re-invest if the good economic years are deliberately destroyed by the government?
Where then are the funds for all those enviorment and staffing changes that "70% of the public want"??
I don't think the NZ economy is in the right place to adjust the OCR upwards. But the Reverse Bank will do what it will do.
For some reason I find myself looking at the affects on Bank Reserves if the OCR lifts.
A country cannot tax the citizens into wealth and most of us understand this, increasing interest rates will not increase wealth neither.
Just Money by Ann Pettifor is an interesting read.
Agricultural debt is enormous and modernisation (in terms of NZ good) is going to cost money.
If my accountants business does well in a year, he profits. His debts are paid back, he increases wages, he pays saves/invests for the future.
If my dairy revenue increases.... RBNZ looks for ways to reduces all those successful factors that other businesses (like my accountant) enjoy.
We welcome your comments below. If you are not already registered, please register to comment.
Remember we welcome robust, respectful and insightful debate. We don't welcome abusive or defamatory comments and will de-register those repeatedly making such comments. Our current comment policy is here.