NZIER says QSBO shows economic recovery is stalling, warns RBNZ not to stifle recovery

The New Zealand Institute of Economic Research's Quarterly Survey of Business Opinion, which is closely watched by the Reserve Bank, shows signs the economy's recovery stalled in the June quarter.

"Of concern is a renewed weakness in manufacturing, construction, and investment intentions. Small firms – which tend to lead the economic cycle – experienced deteriorating conditions in the June 2010 quarter," NZIER said.

(Updated with ASB economist Christina Leung's view that the RBNZ will keep hiking; JP Morgan economist Helen Kevans' view the RBNZ will still hike the OCR to 3.75% by the end of 2010 despite the weak QSBO, BNZ economist Stephen Toplis' view that the RBNZ may pause hikes in 2011, Westpac's view that rate hikes are still on)

“Firms are less optimistic as the economy has yet again failed to deliver on expectations of a strong recovery. Seasonally adjusted business confidence eased from 36% to 28%. The recovery may be stalling. The outlook is still fragile,” said NZIER's Principal Economist Shamubeel Eaqub.

NZIER said the signs were worrying and the Reserve Bank should be careful not to stifle anaemic domestic demand.

"At this stage of the cycle we would normally see the economy recovering strongly. Slowing momentum of global economic growth and financial market dislocation add risks to the economic outlook. In this environment the RBNZ needs to take care not to stifle already anaemic domestic demand and derail a fragile export recovery."

NZIER said pricing indicators were flat, indicating subdued inflation in the economy.

"Pricing intentions and cost pressures are building, but firms’ pricing power is low given weak demand. Elevated pricing intentions may also reflect a raft of one-off policy measures (the ETS, ACC levies and GST)," it said.

"Capacity utilisation of manufacturers and builders remained elevated (90.8% from 90.5%). But this was concentrated in the export-focused building materials sector. Non-exporters, the main driver of domestic inflation, report historically low capacity utilisation."

NZIER said the survey showed an improving labour market.

"Job shedding eased (-7% from -15%) and labour is becoming harder to find. However, hiring intentions are not picking up. The lagged effects of labour market weakness will dampen wages for at least another year," the NZIER said.

ASB economist Christina Leung said inflation pressures still existed despite the softer outlook.

"This is reflected in the surge in firms' pricing intentions and cost expectations. Part of this surge is likely to reflect greater awareness of the higher headline inflation over the coming year as a result of the raft of Government charges," Leung said.

"The current level of firms' own assessment of trading conditions suggest economic growth over 2010 will still be reasonably healthy. On the inflation front, one of the RBNZ's key assumptions is that the Government charges-induced high CPI inflation will not change price and wage setting behaviour. In light of this, a continued persistence in pricing intentions should be of concern to the RBNZ," she said.

"With the recovery remaining on track and inflation pressure still in place in the NZ economy, we expect the RBNZ will continue to steadily remove monetary policy stimulus over the coming year."

JP Morgan economist Helen Kevans said she still expected the Reserve Bank to lift the Official Cash Rate by a further 100 basis points by the end of the year.

"We believe, though, that the RBNZ will continue to hike the OCR at each of the remaining four meetings this year, providing that economic and financial market developments evolve as expected; this will take the OCR to 3.75% by year end," she said.

"This forecast relies heavily on growth in New Zealand’s major trading partners remaining strong in order to underpin strong export growth in coming quarters as domestic consumption continues to ease."

Pause in OCR hikes?

BNZ economist Stephen Toplis said in a research note the Reserve Bank may now pause its schedule of rate hikes in 2011, although inflationary pressures remain a niggling concern.

"We are seriously weighing the scenario of the RBNZ, after squeaking through a few more rate hikes over the coming months, pausing for a time into 2011, before following on to 5.50-6.00% beyond that," Toplis said.

"We should probably switch to this plan-B, if potential growth disappointments, as signalled in today’s QSBO are anything to go by. However, the survey’s niggling inflation “issues” leaves us with our existing view on the OCR for the meantime." 

Westpac's economists said the figures were still consistent with a steady pace of recovery, but the price pressures could not be dismissed as merely a blip.

"The evidence of rising price pressures and a lack of spare capacity won't come as a surprise to the RBNZ: they have drastically revised down their assumption about the economy's potential growth rate, which means even a subdued recovery can be expected to generate inflation pressures," Westpac's economists said.

"Even without the impact of the various government charges, the June Monetary Policy Statement projected annual inflation to return to 2.7% by the end of next year. We continue to expect a series of gradual rate hikes over coming reviews, barring a more serious turn of events in international markets," they said.

Here is the full NZIER media release