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BNZ economists doubt the Reserve Bank's ability to 'impact outcomes' in the current economic environment

BNZ economists doubt the Reserve Bank's ability to 'impact outcomes' in the current economic environment

BNZ economists say an interest rate cut by the Reserve Bank now would be "wasted".

Financial markets are giving a slightly better than 50% chance that the RBNZ will on Wednesday this week cut the Official Cash Rate for the first time since November 2016, by quarter of a percentage point from 1.75% to 1.5%.

In BNZ's weekly Markets Outlook publication BNZ head of research Stephen Toplis says the RBNZ would be better to "wait and see" in its Official Cash Rate review on Wednesday because he believes the main reason GDP growth is slowing is due to capacity constraints.  

"Monetary policy is not particularly effective at stimulating economies that are capacity constrained. Indeed, normally, the option under an environment of capacity constraint is to raise rates to bring demand back down into line with the economy’s ability to supply."

Toplis says more generally the BNZ economists are "very worried" about the RBNZ’s ability to impact outcomes in the current economic environment.

He says lowering interest rates normally operates on the economy via three simple mechanisms:

-          It provides households and businesses alike with more free cash flow to consume with;

-          Lower interest rates encourage more household investment in housing;

-          Lower interest rates encourage more business investment.

This is "all well and good", Toplis says but:

-          Households are heavily indebted so a reduction in interest rates is more likely to result in debt repayment than higher consumption;

-          The last thing a capacity constrained building sector needs now is increased demand for housing;

-          Lower interest rates are unlikely to greatly stimulate business investment as this is being constrained by a combination of uncertainty and margin compression as input costs rise.

"Given the above, we think a rate cut now would be wasted."

Toplis concedes that current financial market pricing makes things problematic for the RBNZ.

"The last thing the [central] bank would be keen on now is for interest rates to spike and the NZD to soar.

"That said, bear in mind that retail interest rates have been falling so a modest reversal would be no big deal and the NZD TWI currently sits almost 2.0% below where the RBNZ assumed it would be at this time so, similarly, a modest increase on the day wouldn’t be the end of the world. That said, there is no doubt that the market pricing in more than a 50% chance of a cut makes it that much more difficult for the Bank to do nothing."

Toplis still believes, however, the best approach the RBNZ could take this week is to keep interest rates on hold but "formally build in its easing bias into its rate track".

"In so doing it should also make an attempt to identify the conditions that would give the green light to a cut."

Toplis said this "time-buying exercise" would:

-          limit the chances of the RBNZ making a policy mistake;

-          increase the chances of a rate cut being impactive if it was eventually utilised;

-          minimise future market volatility.

He still doesn’t believe a cut in interest rates, at this time, is warranted.

"Before cutting we would like to see greater evidence that the RBNZ will struggle to meet its targets. And, perhaps more importantly, we question whether a cut in interest rates, in the current environment, would have the sort of impact on the RBNZ’s targets that it desires. Consequently, it might be better to wait until the Bank’s tools have a better chance of being leveraged than using up its ammunition when it has limited chance of hitting its targets."

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"Households are heavily indebted so a reduction in interest rates is more likely to result in debt repayment than higher consumption"

Wishful thinking and a misunderstanding of human behaviour, the reason why we are so indebted in the first place is indeed because we have borrowed more since interest rates have dropped

Agree with you Yvil,

Toplis is inclined to shoot from the hip.

Many here will remember that Toplis once tried to tell RBNZ that it shouldn't be changing the OCR by more than .25% at a time. For that, he earned a stern rebuke from then Governor Dr Alan Bollard - and rightly so.


Mr Toplis appears to forget that an increasing number of households rent and would benefit disproportionately to those that have mortgage debt, the ones that our Australian banks are interested in.
The demand for Auckland housing , thats gone ,gone,gone.

I might have misinterpreted your comment but wouldn’t an interest rate rise help renters?

I agree rates should stay on hold. For the reasons he said, but particularly I don’t think monetary policy should do the heavy economic lifting, it should keep inflation within a certain band and then take a break. We already have low interest rates and inflation is around 1-2%. That seems fine. Our target used to be 0-2% after all.

Or they could cut interest rates but introduce a DTi to control borrowing.

I believe CPI target is 1-3% with an ideal midpoint at 2%, it just has been undershot for several years

The NZ sharemarket has risen over 300% in the past 10 years, and the housing market a huge amount as well, driven by historically low interest rates. Driving interest rates even lower is like cocaine or sugar rush capitalism for markets at this point, to keep them high. At some point there’ll be the crash.

They’ll likely keep lowering and paint themselves into a corner with no way out...just like the ECB and BOJ. Also, with taxes set to continue rising, disposable income is under pressure and if they don’t lower rates then a lot of people will default. They’ll keep going until we hit a brick wall and confidence implodes. Might still be a way off, but they (govt and RBNZ) will have no tools left then. Should be interesting..,

It’s as though “them in charge” can’t or won’t look out of the window and see what has gone on in the rest of the world....

Reducing interest rates and or tax breaks are traditionally used to stimulate an economy that is slowing or stalled. This only works if an economy has around the middle 50% of wage salary earners earning approx 50% of the wage take and already have limited disposable income to purchase goods and services.
The current situation is we dont have the middle 50% earning 50% of the national income and they no longer have disposable income.. for what ever reason.. ie debit.
Therefore any increase in income will not be spent on goods and services.
Classic example is Japan.
What is needed is a readjustment of the income balance.
Historical systems of a need to adjust is when things like home building projects fail.. because the targeted section of the population dont have the income to save/ support the product..The so called middle income earners start to go on strike.. nurses teachers etc.
Its not a matter of tax the rich pricks to adjust, its more to the core than that.. its increasing the wages/salaries.. leads to greater tax take, , gdp growth, and inflationary pressures... Well maintained and doesnt become an issue.

Mmmm instead of being a banking Debbie downer how about lowering your floating interest rates BNZ? Then maybe I may listen to your opinions in the future but I doubt it...