By Roger J Kerr
One to three year interest rates on the wholesale swap market increased by 10 basis points over the past week as the markets reacted to the RBNZ decision to leave the OCR at 2.25% in the meantime.
Another 0.25% OCR cut is likely in early June. The markets are, however, now projecting that the June cut may be the last.
So much depends on exchange rate movements, in particular if the US dollar can regain some strength on global currency markets that pushes the NZD/USD rate lower.
Further reductions in short-term interest after June will not be necessary if the NZD/USD rate returns to 0.6500, coupled with stable to higher dairy product prices and therefore an improved milksolids payout for the next season for the beleaguered dairy industry.
Focus will be again be on the residential property market over coming weeks, in particular the release of analysis and data on the level of non-NZ resident buying of houses and how that is contributing to the price increases.
No matter what that data tells us, there is no question that the largest contributor to the housing market bubble is super low mortgage interest rates that allow mortgage borrowers to take on much higher debt levels than would otherwise be the case.
The reality is that interest rates cannot be increased because of the upward impact this would have on the NZ dollar, therefore the RBNZ and Government are searching for the next non-monetary policy measure that will cool the market down.
None of the existing macro-prudential tools appear to be working that well so far!
Massive decreases in petrol prices and air fares over the past 12 months have resulted in an annual inflation rate of just 0.40%. All other parts of the Consumers Price Index have recorded price increases, with house construction costs rising at an alarming rate.
Over recent weeks oil and commodity prices have increased significantly on world markets.
The forward inflation picture will clearly not be as benign as it has been over the past 12 months when the oil and commodity price impact is one of increase rather than decrease.
Perhaps this is why the RBNZ was so cautious last week in not reducing the OCR further.
However, that caution may prove to be disastrous if you are a dairy farmer looking down the barrel of a third year of financial losses and negative cashflow.
At some point the current patience being displayed by bank lenders to heavily indebted dairy farmers will reduce and the knock-on overall economic impact from that change should not be underestimated.
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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