By Roger J Kerr
Expect RBNZ Governor Alan Bollard to yet again emphasise the critical importance of the value of the NZ dollar exchange rate on the economy and monetary conditions when he reviews the OCR on Thursday.
The last jawboning down by the Governor on the perceived 'over-valued' exchange rate a few weeks back was totally ineffective.
However, the diverging trends of the exchange rate and our agricultural commodity prices since then should prompt the Governor to up his warning about the implications for economic growth.
What the NZ economy does not need right now is falling export incomes at a time when asset inflation (house prices) is starting to move up. That is fool’s paradise and we have been there before, albeit credit is not so free and easy today as it was in 2006.
Looking ahead, if inflation is going to be closer to 3.00% than 2.00% in 12 month’s time, the RBNZ should be concerned that mortgage borrowing rates at just 2.70% above that will fuel the wealth-effect from rising house prices and increase inflation risks even further. It is a potential spiral that the RBNZ should be well aware of.
Given the recent divergence of export prices from the exchange rate, it is even more apparent that market interest rates cannot increase until the exchange rate comes back.
The interest rate markets will also not be convinced about the requirement for higher interest rates until the Governor starts to change the tone in his rhetoric.
My pick is that this could start to emerge in September/October as the evidence becomes clear that the economy was stronger in 2012 than what most people currently believe. I may be overly optimistic on this; however it is likely to be closer to reality than some of the incredibly negative economic outlook coming out of some quarters currently.
It is a real worry when the major independent economic forecasting house in New Zealand does not believe the results of its own business confidence survey and thinks the economy is actually weaker than what business firms are telling them.
My advice to the economic forecasting house is to take a look at the NZ exchange rate and sharemarket pricing and work out what the markets are signalling about expected future economic performance.
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* Roger J Kerr runs Asia Pacific Risk Management. 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
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