Is the NZ economic slowdown over-rated?

Currencies

Roger J Kerr says says neither Greece nor China are "any kind of threat" to the New Zealand economy and how it performs over the coming months

13th Jul 15, 2:01pm by Roger J Kerr

By Roger J Kerr

They say that that an outsider’s observations of the health and outlook for the NZ economy is sometimes more valuable than the views of local commentators as it provides a comparison and perspective against the rest of the world that is sometimes lost on the locals who are maybe too close to the day-to-day action here.

Having been away from New Zealand over the last two months (however keeping abreast of the economic news through the I-Pad) my personal observation is that things have certainly come off the boil for the NZ economy, however we are still a top performer compared to others.

I was mostly in Europe, so perhaps my comparisons are somewhat clouded and biased.

The decisions by the RBNZ to cut interest rates was certainly a surprise to me as it seemed totally contrary to their prior statements and analysis of the economy. Something dramatic must have happened to cause the Governor to suddenly change tack with monetary policy management.

Most cite the sharp falls in dairy prices as the cause, the argument being that a second year of a low milksolids payout is interpreted as very negative for NZ economic growth, spending etc.

If the rest of the big industries outside dairy were slowing up abruptly as well, one could support a monetary easing through multiple cuts in interest rates. However, my assessment (albeit from afar over recent weeks) is that the manufacturing, meat, forestry, energy, retail and construction industries are still trucking along pretty well.

Some economic commentators are now considering scenarios of the NZ economy falling back into recession if dairy prices do not recover.

I find it hard to see such a scenario materialising against a backdrop of very low interest rates (thus plenty of discretionary spending going on), a still booming housing market and employment remaining robust. Maybe the RBNZ and some economic commentators are underestimating the ability of dairy farmers to manage their financial affairs by reserving cash from the good payout years to cover the current poor income years.

How the dairy auctions go at the start of the new Chinese milkpowder buying season in August/September will be closely watched as a key indicator for our economy over the next 12 months. A recovery in Wholemilk Powder prices allowing the economy to continue to trade at a reasonable robust place could render the RBNZ interest rate cuts (in hindsight) as a policy miss-judgement, rather than a monetary policy master-stroke.

The much lower currency value will feed into higher inflation over coming quarters. How other price-setting behaviour in the non-tradable sector transpires will hold the key to future monetary policy decision-making and thus interest rate direction.

The global risk factors from the Greek debt and Chinese stockmarket situations, in my view, are seen as less by the financial and investment markets than what the daily media is hyping up them up to be.

If there was a real worry about these global risks then US bond yields would be lower (investment flight to safety) and the Euro currency value would be smashed in the FX markets.

Neither is the case, therefore I do not see Greece or China as any kind of threat to the performance of the NZ economy over the coming period.

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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

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10 Comments

by Stephen Hulme | 13th Jul 15, 2:58pm 1436756300

A recovery in Wholemilk Powder prices allowing the economy to continue to trade at a reasonable robust place could render the RBNZ interest rate cuts (in hindsight) as a policy miss-judgement, rather than a monetary policy master-stroke.

The abrupt RBNZ OCR policy reversal can only be be seen as an indefensible action, without due regard to earlier forward guidance claims that the 'neutral' rate was more appropriately centred around the 4.5% mark. Many would have undertaken forward interest rate protection via swaptions etc at great realised loss cost.

by Anarkist | 15th Jul 15, 4:05pm 1436933158

Yes but that is based on the (questionable) assumption that WMP prices will recover, but what are the chances of that and the evidence to substantiate that rather optimistic forecast?

by bw | 13th Jul 15, 3:23pm 1436757831

"Something dramatic must have happened to cause the Governor to suddenly change tack with monetary policy management."
If that is indeed the case, then whatever it is that Graeme Wheeler sees that I don't (over and above what has been blindingly obvious for several years now!), allowing the continuation of debt accumulation by New Zealanders at ever more 'attractive' interest rates is incompatible with that 'something dramatic'. If the RBNZ is worried about something, it should be protecting Kiwis against it ,not adding to the very risk that is sees looming.

by steven | 15th Jul 15, 2:52pm 1436928726

Your post seems contradictory. You are a financial person and not a main street person IMHO from your previous posts, I'd suggest you appear to be blinkered from anything non-finance and non-auckland.

a) In terms of debt rates, this is however private debt much of it unproductive property speculation.
b) Does the drop in rates by 25basis points matter if Auckland property is increasing at 3+% per month? Id suggest not. Is the rest of NZ doing the same thing? no, lucky to see 3% per annum.

c) Farming is going to have a tough year by the look of the price drops (see b) and that doesnt yet account for what might be a dry year from an El nino this summer? (suspect not)

d) tradeables in the doldrums, retail? looks sick to me.

So the obvious first risk for me is hardship in the NZ business sector that produce things as opposed to the financial speculating market that is parasitic.

So the RB is acting to keep the rest of NZ going while our cretins in Govn do nothing and the financial parasites around bleat.

by bw | 15th Jul 15, 3:03pm 1436929385

You see the RBNZ as protecting the Country by dropping rates ( if I read you right); I see it raising rates to achieve the same thing - protecting the country. Graeme Wheeler made no bones about the reasons for his earlier course of action. An action I agree with. But as with anything, when faced with a choice between two things, choosing the right one is a matter of luck! ( If it was obvious, there wouldn't be a choice). I hope you are right, and that easier monetary policy does insulate New Zealand from whatever may happen, but if you are not, then the ramifications will be far worse than a bit of hardship, now

by notaneconomist | 15th Jul 15, 3:31pm 1436931116

It is all about inflation and deflation!!

by linklater01 | 14th Jul 15, 9:21am 1436822474

I don't find it at all hard to see how a significant Chinese slowdown could affect NZ. I find Roger Kerr's logic very hard to follow. The Reserve Bank's interest rate increases in early 2014 turned out to be unjustified,as our inflation rate fell far short of the 2% target and that alone would justify at least a partial reversal.Our growth rate is slowing and inflationary pressures remain modest. Yes, some prices will rise in response to a falling Dollar,but retailers for example,will find it difficult to pass on significant price rises and there is plenty of evidence for this.
As with many commentators,he fails to mention the growing effects of digital technology on employment and incomes.The Bank should have been cutting interest earlier than it did.

by Stephen L | 14th Jul 15, 2:15pm 1436840107

The RBNZ seemed to have little choice assuming they were intent on meeting their inflation target, and not some other target that Roger may have preferred.
It seems likely to me that the key dilemma facing the RBNZ was the interaction between interest rates and the exchange rate. Mr Wheeler had tried very much in vain talking the NZD down, as though it was somehow independent of his having kept interest rates the highest in the developed world. Once it was clear that the NZD would only respond to an interest rate cut, and If he was concerned about NZ Inc's external debt position and or loss of sovereignty due to asset sales, then the exchange rate had to be lowered to encourage more purchasing of NZ sourced goods and services, and less purchasing by NZers of foreign goods and services. In my view, and I suspect now in his, the exchange rate has a bigger impact on debt funded largesse on foreign consumer stuff, than 25,50, or even 75 basis points in interest rates. This need for exchange rate realignment became more compelling with the dairy price drop, and NZ Inc's therefore significant drop in export receipts.
I suspect with NZ's now 10-15% drop in the exchange rate, already some overseas travel plans to far flung places will already have been tempered back somewhat. Clearly the catalyst for the NZD drop was the RBNZ drop in interest rates and outlook.
The current account, and therefore our net debt position, will be healthier than it otherwise would have been without the exchange rate drop, and that would only have happened with the OCR cut.

by Stephen Hulme | 15th Jul 15, 3:02pm 1436929330

NZD/USD trips to 0.3940 never tempered the desire of those unwilling to fund their joyous foreign currency expenditure with earned foreign currency receipts - hence the permanent 40 year C/A deficit.

by linklater01 | 15th Jul 15, 2:19pm 1436926769

Let me highlight a couple of inconsistencies in Roger Kerr's article. at one point he says that multiple rate cuts might be justified if other parts of the economy were suffering along with the dairy sector,but he believes they are doing well,therefore the cuts are not justified.
A little later however,he says that the dairy auctions in Sept/Oct will be watched closely "as a key indicator of the state of the economy over the next 12 months". Mr Kerr cannot have it both ways.Either the fortunes of the dairy industry are vitally important to the economy,or they are much less important than the RB seems to think.
To boost his case that interest rate cuts are unjustified,he suggest that a rise in the wholemilk powder price would in effect back his argument,but completely fails to consider the prospect of a further price decline.I find his analysis rather unimpressive.