By Roger J Kerr
Looking back on an uneventful year in the NZ interest rate markets leads to a summary along the following lines:
• Long term interest rates were held down at the record low levels by US 10-year Treasury Bonds remaining in the 1.5% to 1.7% region. Safe haven buying demand for Treasury bonds (due to European blow ups) over the first half of the year kept yields low and fiscal cliff concerns over the second half of the year maintained the tight range. Foreign buying interest in NZ Government bonds kept yields low, however that investor demand is now waning.
• A continuation of monetary stimulus in the US kept the US dollar weak on the global stage, thus a high NZD value maintained tradable goods deflation to offset persistent non-tradable inflation (lack of competition) in the NZ economy. Monetary conditions were much tighter in 2012 than what a 2.5% OCR would have suggested due to the high currency value. The exchange rate continues to play a major role in the NZ economy and thus interest rates were locked in at the record historical lows.
Despite several doomsday forecasts at the start of the year about the economy falling back into recession, the reality was +3% GDP annual growth over the first half of the year and a likely +2% annual growth clip over the second half.
Rising house prices helped retail demand and the so-called “manufacturing crisis” highlighted in September simply did not occur.
The economy on the whole was far more robust due to the wide-reaching benefits of a boomer agricultural production season.
Looking ahead to the likely interest rate movements through 2013 the following influences are likely to play a part:
• The US politicians will fudge a fiscal cliff/budget deficit “solution” by delaying most of the automatic tax hikes and spending cuts.Therefore, the US economy will not come to a grinding halt and stronger growth/higher inflation will be positive for equities and negative for bonds (i.e. treasury yields eventually higher).
• The timing of NZ short-term interest rate increases is almost entirely in the hands of what the NZ dollar currency value does. A sharp pull-back in the NZD/USD exchange rate to below 0.8000 would increase inflation and GDP growth forecasts and the markets would speculate about an earlier RBNZ OCR adjustment. If the NZD stays high over coming months inflation and GDP growth will be lower (exporters really struggling), therefore the OCR stays where it is for another year.
• The wildcard for the NZ economy away from Kiwi dollar movements is the climate. A dry summer will decrease agriculture production, thus GDP and rural incomes lower.
• The RBNZ are forecasting 2013 GDP growth between 2% and 3% with the TWI remaining above 70, which tells you that NZ export industries are adjusting to the reality of a higher currency value. The Christchurch rebuild adds to inflation risks on the upside.
All in all a fairly positive outlook with the widely expected global headwinds for this economy really being managed through and not making the negative impact in 2012 most had anticipated.
The doomsday merchants (who surprisingly command a fair amount of media space in NZ) will be struggling to come up with fresh headwinds for 2013.
To subscribe to our daily Currency Rate Sheet email, enter your email address here.
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