There will have been few more keenly anticipated Reserve Bank (RBNZ) interest rate reviews than the one coming up on August 18.
Expect anything. Official Cash Rate hike? Double Official Cash Rate hike? No Official Cash Rate hike?
Right now the RBNZ is in a very invidious position.
There's no easy decision.
The central bank could be damned if it 'does' and damned if it 'doesn't'.
This is a position the RBNZ could scarcely have expected to be in even three months ago.
If it raises interest rates starting from August 18 there's two immediate points of concern.
First, what happens if we do get the dreaded Covid Delta outbreak?
Second, how are mortgage holders going to cope with increased payments? Much more on that shortly.
So, okay, the other option for the RBNZ is to 'wait and see', particularly with regard to the ever-present Covid risk.
But the 'do nothing' option carries the risk that the New Zealand economy seriously overheats, inflation gallops, and the RBNZ is then forced later to act harder to rein everything in. We saw that happen particularly in the mid-2000s when the RBNZ had to jack up the interest rates higher and higher because it got behind the eight ball.
To step back for a moment, how much of a risk is the 'do nothing option' then? Those who would oppose raising interest rates now can justifiably point to the New Zealand economy and say it is not exactly performing out of its skin.
True enough. If you look at the latest economic data in isolation this is not an economy absolutely flying.
The point is though that at the moment we still have 'emergency' monetary policy settings (with the OCR at the historic low 0.25% it was dropped to in March 2020), while the speed and quantum of the economic recovery has been so extreme.
It's worth recapping where we were in May when the RBNZ released its last Monetary Policy Statement - and what's happened since.
These were the key two paragraphs from the RBNZ's May MPS:
The [Monetary Policy] Committee noted that medium-term inflation and employment would likely remain below its Remit targets in the absence of prolonged monetary stimulus. The Committee also noted that while the low interest rate environment has supported house prices, other factors such as recent tax changes, the growing supply of housing, and lending restrictions, are providing offsetting pressures.
The Committee agreed to maintain its current stimulatory monetary settings until it is confident that consumer price inflation will be sustained near the 2 percent per annum target midpoint, and that employment is at its maximum sustainable level. Meeting these requirements will necessitate considerable time and patience.
So what happened? Well, let's look back at the key economic data that have been released since that MPS came out.
In mid June the GDP figures for the March quarter were released. The RBNZ forecast the economy to shrink -0.6% - which would have technically put NZ back into recession again (as GDP shrank 1% in the December quarter). Economists, who had the benefit of seeing later economic data than the RBNZ did in the run-up to release of the GDP figures were forecasting a +0.5% rise in the March quarter. The actual figure was a stonking great +1.6% rise.
So that was huge.
Next up, inflation figures for the June quarter released last month. The RBNZ expected 2.6% annual inflation, economists, again with later data at their fingertips said somewhere between 2.8% and 3.0%. It was 3.3%.
Last but not least
And then this week, in the last of the 'big three' data releases there were labour market figures. RBNZ said unemployment rate of 4.7%. Economists said 4.4%. It was 4.0%. Also key in the labour figures were the wage figures for the past year. Here the RBNZ had a pick that was seen as somewhat going for it in terms of a reasonably high expectation of the size of rises. It picked 2.1% annual private sector wage growth. The actual figure was 2.2%.
As you can see, everything has turned out, not just better than forecast, but hugely so. Enormously so. In a 'normal' world you would have to imagine the OCR would be currently at least 1%, if not higher.
The final piece of the jigsaw for the RBNZ will be its own Survey of Expectations, set for release on August 12. The key figure to watch for here is the expectation of inflation in two year's time. The RBNZ looks for these expectations to be 'anchored' at around 2%, which of course is the level of inflation it explicitly targets.
The last survey released in May had a two-year-out inflation pick of 2.05%. If this figure has increased significantly when the next survey comes out, then it will be a slam dunk, four-out-of-four in terms of the recent economic data coming out way ahead of earlier expectations. There's a possible clue as to what we might see from the most recent (July) ANZ Business Outlook Survey, which had a one-year-out inflation pick of 2.7%, but tellingly the survey answers coming in late in the month (after the June inflation figures were released) averaged a 3.3% pick (which of course mirrors the actual figure from June).
So, what will the RBNZ do?
On balance, waiting may be just too risky. After this interest rate review it has only two more this year before there's then about a three month gap to the next one in late February. If the RBNZ sat back and waited and inflation roared over summer then there could be a lot of catching up to do.
The alternative might be to try a hard and fast approach up front. This could be particularly so as the main banks have last month already anticipated a 25 basis-point rise in the OCR by jacking up their main fixed mortgage rates by about that amount.
Long time between double-dips
Between when the OCR was first introduced in 1999 and 2000 the RBNZ did on three occasions raise the OCR by 50 basis points. But the last time it did this was in May 2000. Subsequently, for 21 years since, the OCR has only ever been increased in 25bps increments.
Reductions have been a different story. We had of course the 75bps reduction last March as an emergency measure. And in the 2008-09 period there were twice massive 150bps reductions in response to the Global Financial Crisis.
But might this be the time for the RBNZ to try a 50bps increase, or even 75bps?
The RBNZ's Monetary Policy Committee, headed by RBNZ Governor Adrian Orr has shown previously that it won't bother walking anywhere when it can run instead. The MPC completely blindsided the market with a 50bps reduction in August 2019 that was not in response to any particular crisis, but was simply done because that's where the committee decided it wanted rates to be.
The hard and fast approach would be sure to get some very quick traction.
In the past year New Zealand mortgage holders have gone 'shorter' with their fixed mortgage rate times. The upshot is that as of June nearly $250 billion of mortgages, out of a total of $318 billion (over 78% of the total) are either floating or due an interest rate reset within the next year. In June 2020 the comparable figure was just 66% of mortgages due for a reset within 12 months.
The RBNZ therefore has huge firepower at its disposal at the moment. So, what if it does, as most economists are now picking, hike the OCR to 1% before the end of the year?
Here's some quick calculations using the interest.co.nz mortgage calculator again. As of June, according to RBNZ monthly figures, the average-sized new mortgage was $337,000. If we take the average one-year fixed rate that applied then (prior to the July bank hikes) of 2.19%, this would over a 30 year term give us monthly payments of $1240. With an OCR of 1% and assuming all 75bps of increase are passed on by the banks (giving a mortgage rate of 2.94%) this would see the payments increase by 10.3% to $1368.
What about first home buyers? As of June their average-sized mortgage was $546,000. Their mortgage payments would rise from $2070 to $2284.
So, this would all be noticeable, and it would, as well as taking heat out of the housing market, take steam out of the economy as well - because there would be less money to spend.
How hard to squeeze?
The RBNZ faces the dilemma of how hard it squeezes mortgage holders. Because it doesn't want to overdo things. But equally if it doesn't act now and does have to squeeze harder later, then there could be some pain ahead.
For example, the BNZ economists are now picking the OCR will be 2.25% by early 2023 (so, basically only 18 months away).
What if that happened? Well, using our examples above, the one-year mortgage rate would be 4.19% and our $337,000 mortgage holder would now be paying $1597 a month, while our FHB would be paying just under $600 a month more than now at $2667 a month.
I think there's a real risk that we could see our economy grind to a halt if the RBNZ aggressively hikes the OCR.
But the flipside is that sitting on its hands now could see the central bank with an even bigger inflation headache in the future.
A real tough decision is ahead for the RBNZ. It will be really fascinating to see what it does.
59 Comments
"This is a position the RBNZ could scarcely have expected to be in even three months ago."
Bull shit. It was blatantly obvious before Christmas that the economy was up and running and headed for an asset bubble and where we find ourselves now. The RB has kept its foot hard on the accelerator. Even if the the rate was hiked by over 1% more it would be still well and truly at a stimulation setting. If we are to have an agreed control regime we need to be consistent. They appear to be wanting to cherry pick when they apply the rules that they have agreed to. What a joke!!! Sick joke for a lot of Kiwis.
I completely agree. At the very minimum, Orr must raise interest rates back to 1% in two weeks time. He must also clearly signal that rates will have to go at between 2.5% and 3% by mid next year, which would still be a slightly stimulatory level anyway.
Regarding mortgages, banks normally test even higher levels, so this would not be a problem. And if some over-exposed specuvestor gets burned in the process, I am not going to lose any sleep on it - actually it would be good if the net result is more houses put on the market.
Yeah but these things can lose control quickly.
To be honest to hold off inflation I think the reserve bank needs to get above 3% in the next six months. Perhaps even higher quicker.
You don't contain inflation until your interest rate is above it.
But I just can't see them doing it. There haven't been any ballsy central bankers since Voelcker. Just inept career cowards like our dear political leaders.
It's not gonna be a few specuvestors losing their money, it will be everyone all at once and very quickly. And it will be the first time buyers hit hardest and first. Last in worst off.
Houses aren't liquid and even less so when things go belly up. Remember we live in world where people can't even conceive that house prices could go down...much less collapse.
So the initial instinct will be to hold on or buy the dip. Which will make it more difficult to get out.
This will likely cause a run on the dollar that will make inflation worse.
Then we have a good old fashioned shitstorm.
Of course I'm probably wrong and houses will be up another 30% in a year. After all it's a great way to make an economy.
Temporary inflation????...just look at timber as one example....so many sawmills have closed down. Graeme Hart closed a lot of Carters sawmills to consolidate when we were building half the houses ten years ago.Many others who produced clear pine products have struggled against a high dollar and couldn't make a buck. Some mills were just worn out and closed. Some were bloody great businesses and closed because the shareholders could use their capital elsewhere.....and save the heartache.Some have prospered like Red Stag but it has taken them years to slowly reinvest profits back into the business.The industry has been cleaned out from twenty years of bloody hard slog.I cant see the shareholders wanting to go back to selling the timber cheaper and why should they now?Graeme Hart will milk it for all its worth now.
My point is I cant see the situation changing without major investment and it will take time.By major investment I mean the public and government putting up the capital to build large modern turn-key german plants that make CLT or similar houses.Not sticks that go into houses.Plants will cost $100-250m apiece.
But hey if you think the retailers are going to change the price list and price stickers back on your skirting board in three months then good luck with that.
Lumber is the perfect example of temporary inflation - take a look at the last year's prices
https://www.nasdaq.com/market-activity/commodities/lbs
Huge spike in prices now almost completely faded away
Guys nothing is going to change, Interest rates is not going up on your wish, in fact it will not change this month and stay low for next 2 to 3 years below or at 1%.
So relax and accept that this is new normal, as this govt. have mandate for next 2 years and no action will be taken.
Mate I have lost hope in this leadership & accepted the status quo. Also expecting more worst to come as still there are 2 years left.
I was worried for new generation but now decided that they should leave this place once they start there career, NZ is not a place to live anymore for lower & middle house hold.
Thanks to Jacinda and Orr, they may have made millions in there personal capacity but have made life harder for every kiwi who is not property investor.
So all good.
Is it not irony, when interest rates were to be dropped to near zero , not even once questions were raised what will happen to house price, on top of that LVR was removed and now so much of thinking and debate despite all data suggesting : Unemployent is lowest, Economy is strong, house price inflation 40% in a year, whimsical official inflation number is more than 3% - If not now when Mr David ?
What they are thinking of doing should have been done three months before. All discussion should not be on if rbnz should act or nit BUT on by why did they not acted earlier, accountability.
Not ironic at all.
House price inflation is intentional, as increasing asset values through low interest makes people feel rich, they spend, the economy keeps turning and people remain employed. Despite the denials of Labour (or complete incompetent lack of understanding) this has worked spectacularly, and now we have hit the negative implications at the other end.
Labour wont make a decision unless polling tells them to, but the general public are reactive, not proactive, hence Labours always being behind the 8-ball.......
‘This is a position the RBNZ could scarcely have expected to be in even three months ago.”
This is an unbelievable statement. Most commentators on this site have been very critical of the Reserve Bank’s lack of action this year. It is quite obvious that house price inflation is way out of kilter with CPI and will be very damaging for this economy.
The OCR must be increased this month so that housing prices can reduce to more affordable levels.
The price of houses would have been so much more affordable if the government hadn’t tinkered with the Reserve Bank’s mandate to include “maximum sustainable employment” when setting the Official Cash Rate.
This change has mean’t that interest rates are now much lower than they would otherwise been & as a result NZ now has unaffordable housing. This problem is now very unlikely to be fixed for a least a decade & will deprive an unacceptable number of Kiwis the right to have adequate housing.
Is it a hike or a reversal of an emergency measure? I think a 0.75% hike/reversal is the way to go.
"what happens if we do get the dreaded Covid Delta outbreak?" well the RBNZ would have more capability to do something in that scenario had it already increased rates.
absolutely agree - i dont understand this hesitancy around a "maybe scenario ie the delta outbreak" - if the scenario never eventuates then waiting to raise rates creates a bigger mess - ie higher rate increases faster, if the scenario eventuates then we lockdown for 6 weeks like last time and the RBNZ can then lower interest rates back to 0.25% if the economy needs stimulating. I dont think it will - the government will give wage subsidysand people will use their savings to spend up big when things reopen.
Even Australia is set to impose restriction : Tighten LVR, DTI and RESTRICTING INTEREST ONLY LOAN.
Why is Orr not thinking of restricting speculative demand AS MOST IF NOT ALL SPECULATORS USE IO TO FUND THEIR ACTIVITY - In Speculation Interest Only Loan = Blood Money.
Australia had restricted IO loan earlier and were successful so why the reluctance Mr Orr.
Below details in major Australian news paper :
Later this year, the Australian Prudential Regulatory Authority (APRA) is to impose ‘macro-prudential’ curbs on mortgages to cool the market, such as loan-to-value ratio (LVR) restrictions, debt-to-income (DTI) restrictions, increased mortgage buffers, or restrictions on interest-only lending.
These types of restrictions were imposed by APRA in December 2014 and March 2017 and quickly reduced credit growth in the targeted mortgage products.
There are no longer any excuses for not raising rates.
Banks are supposed to stress test loans at 6-7% interest rates so considering even the most expensive 5 year fixed rates are hovering around 4.0% even a 0.5% increase in the OCR shouldn't cause grief IF the banks have been doing their homework.
That's very shortsighted, though. The bank stress test at 6-7% is simply "can this person still keep making payments to us, the bank, so that we don't lose money?".
They do the stress test and for the successful borrower, they answered "yes".
However their question has nothing at all to do with what will happen to the wider economy if this particular borrower was to be paying 6-7% interest. Or this borrower, and every other borrower simultaneously.
You could imagine that the unemployment rate would go up as people lost their jobs. The country could enter a recession.
So the 'excuse' for not raising rates, despite the 6-7% stress tests suggesting you could, is that raising rates could precipitate a recession that otherwise would not happen.
not raising rates in an overheated economy is more likely to lead to a recession than raising rates. A overheated economy runs out of capacity and businesses go broke as they cant get materials or labour. This happens randomly to companies based on their cashflow and it can be big and small companies including traditionally safe industries such as agriculture, utilities , construction etc - so the fallout is usually huge.
When interest rates increase people do spend less - but its usually less on luxury items like eating out and buying clothes. Whilst a number will go out of business when interest rates go up - its not as random and there are often fewer employees involved. So it causes a small downturn in the economy - which is also the point of raising interest rates- to take the heat out of the economy and ensure a smoother growth.
We don't live in a world where the inflation is coming from huge amounts of discretionary income spilling over and driving inflation, we're in this boat because the basics are now taking up so much of people's income that there's little left to spend on other stuff. So what do you cut when your already stretched budget gets to the point where it stops stretching? A slight downturn means less cash for wage increases, so you're going to end up with people either giving up on NZ and leaving, or, quite likely given our total lack of mental health investment in this country, swinging from ropes en masse. I fail to see why the citizenry who get up and go to work each day should be the ones who carry the pain for a poorly maintained financial system in this country.
This makes sense as their focus is on internal business and compliance.
It is the responsibility of the RBNZ to ensure that what banks do will preserve financial stability, banks will implement what they are told to (with a bit of grizzling on the way)
RBNZ has to plot the course out, while managing recessionary risks.
It's a sad paradox:
When rates are already low, lowering them doesn't improve real economic activity -- just encourages asset bubbles.
But once they are low, raising them *does* damage real economic activity.
So they won't. And now these suggestions of maybe talking about implementing DTIs later in the year will be the excuse the RB needs not to make any rate moves. The dollar isn't even under any pressure.
In the RB's and Labor's book, lowering rates, flooding the economy with cash, promoting a bubble that destroys the hopes and future of young hard working Kiwis doesn't even enter their mind. They do not give a sh...... The minute that slightly higher interest rates threaten property speculators, that is a totally different story.
Young Kiwis: there is no future for you in this country. As soon as things open up after covid, get out and don't look back.
I doubt the RBNZ or Labour care about the wellbeing of property speculators. It seems quite clear to me that they flooded the economy with cash to help out with the almost certain economic catastrophe of Covid, and now that decision has worked too well, they will take their foot off the accelerator.
As for leaving the country, at least our RBNZ is signalling some quite big rate hikes, as opposed to Aus and US.
It constantly astounds me the blind faith people have in banks to perform these sorts of tests diligently. Having worked in banking for several years, i've see way to many examples of reckless pursuit of profit resulting in irresponsible behavior.
Our big four are all owned by aussie parent companies ... the very same organizations that a royal commission found they were doing a very poor job of verify income/expenses. But for some reason the RBNZ declined to do a similar investigation of NZ banks ... the same RNBZ that has been repeatedly warned by international banking agencies that their approach is too "light touch".
As a wise man once said, you only find out who is swimming naked when the tide goes out.
Hi David,
When you say :
1 :.....how are mortgage holders going to cope with increased payments?
By above fear and logic, interest rates should never go up and should allow the ponzi to continue. This is what happens when RBNZ (willingly and happily) allowed themselves to be pushed to be blackmail. Why willingly and happily as now RBNZ can play on the fear to avoid taking any action.
2 : So, okay, the other option for the RBNZ is to 'wait and see', particularly with regard to the ever-present Covid risk.
But the 'do nothing' option carries the risk that the New Zealand economy seriously overheats, inflation gallops, and the RBNZ is then forced later to act harder to rein everything in. We saw that happen particularly in the mid-2000s when the RBNZ had to jack up the interest rates higher and higher because it got behind the eight ball.
The other option of Wait And Watch is already on play. Even after 6 months of so called housing policy announcement recent data suggests that house price went up by $39000.....how much more wait and watch as the fear of taking action will always hang wether do it now or after a decade. Even now if RBNZ acts may avoid extreme situation like in 2000 though late as action should have been taken in earnest few months back when realised that nothing is working instead opted for policy that is still been pursued Wait and Watch.
Still better late than never.
Deliema that you talk about will always remain but treat and act the way RBNZ acted earlier and went with policy of LEAST REGRET.
Wait and Watch, they will for if have option to support the speculation more or average kiwi, they will tilt towards .....need know say where as their words and action speaks of their intent.
Looks like last chance for FHBs with pre-approvals on hand to secure a home. New DTI, LVR, stress test measures will see their next pre-approval application (even if they manage to get a new one) with a much lower amount. By then, even buying a good apartment unit will be a problem. Don't let them expire!
Be quick.
LVR - No changes as headline suggests, only may tweak some high risk lending capacity of the bank to FHB.
The way headline was flashed was, as if LVR was going up for investors from 40% to......may be 60% as both robertson and orr potrrays that they want to control speculative demand, what better way to target.
DTI IS ANOTHER gimmick as time to control is NOW but expert ORR will push it for months...may be year.....like you are hungry today and Orr says that we will provide but first we will have discussion with all what to prepare next month than will go out to procure and hopefully should be ready by next year......PLEASE BEAR WITH US AND MANGE YOUR HUNGER TILL THAN. This is how Mr Orr will help in nutshell.
One key data point that is not over performing is the currency, ( or maybe New Zealand is simply munted ). The currency is not reacting on the basis that it will be the first of its mates to leave the blocks because its economy is so strong and can absorb rapid rate hikes, but more like a nation beset with weak fundamentals. The RBNZ has a current forecast TWI (17) of 74.8 ,a forecast it has not reached in two months , during which time the OCR has been slated to rise multiple times.
I was in the field that thought RBNZ would wait to raise but, clearly, if we are back at 4% unemployment again it's time to normalise rates back to pre-pandemic levels. Monetary policy has done it's job and continuing would likely cause more socioeconomic dislocation than required.
Come on, RBNZ. Increase OCR by 3% to have a reasonable success at denting the house prices. Stipuate differential rates for Investors and FHBs. That may protect the latter. Lesser raises are just tinkering at the margins and is not going to scare away the house investors.
As for inflation, check the premises and the statistics. You may get a different picture.
"First, what happens if we do get the dreaded Covid Delta outbreak?" at least you have the benefit of being able to lower them again, where you won't if you keep them at near zero.
"Second, how are mortgage holders going to cope with increased payments?" to take out a mortgage and never expect any increases would be very irresponsible.
I sympathise with RBNZ, they’re doing what they’re instructed to. The problem is they have conflicting goals – stable prices and high employment. It is this conflict that has led to the situation we’re in.
Give RBNZ one goal – stable prices aka inflation. Create a separate entity – call it “NZ Investment Commission” or something similar and task them by law to create jobs. Let them borrow money and create jobs, let them be the biggest financiers/investment banks. Govt should give them a charter and be their underwriters. Something along the lines of NZ super fund but for short to mid-term investments with an aim to create jobs. Let them build the power plants, transition us to the green economy...
The underlying problem is that our governments have failed successively – they like the Keynesian system, but none has been brave enough to be the big spender during crises, and they call upon RBNZ to save the day!
Where is the fiscal arm of the economy?
Don;t interest rates need to go back up to give us some allowance to lower them for the next crisis? Should we worry about those who can;t afford payments on higher interest rates?...everyone said do your mortgage calculations on 6.5%. People are getting sick of saving risk takers who didn't take advice or caution... Over the past 40 yrs, interest rates have trended down massively, saving us from unforeseen crises, or 'black swan' events. House prices have followed interest rate trends almost exactly. How can the next 40yrs be anything similar when we are starting near zero and still at risk from the current COVID event?
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