Economists for New Zealand's largest banking group, ANZ New Zealand, have called on the Reserve Bank of New Zealand to cut the Official Cash Rate in response to the Christchurch earthquake, starting with a 25 basis point cut on March 10.
ANZ's Head of Market Economics and Strategy Khoon Goh said early estimates were the earthquake damage could cost at the upper end of the NZ$5 billion to NZ$12 billion and knock up to 1% off first quarter GDP. He said a 50 basis point cut was justified.
ASB economist Jane Turner called earlier on Thursday for the RBNX to cut the OCR by 50 basis points from 3% to 2.5% when it meets on March 10, if not sooner.
"The personal, economic and financial ramifications for the entire economy from the February 22nd earthquake are becoming increasingly severe as more information comes to hand," Turner said in a note published on Thursday morning.
"At a time of national crisis, when the underlying economy is already proving frustratingly weak, a rate cut would potentially be very helpful to the recovery of the economy," she said.
"Prior to the earthquake, the RBNZ had already flagged the possibility of an OCR decrease over this cycle should domestic conditions continue to deteriorate. This followed a raft of underwhelming data, which indicated economic activity stalled over the second half of 2010."
The government faced much higher rebuilding costs but may have to a run a tighter fiscal policy than would be ideal, Turner said.
"Fiscal policy is likely to find itself in a position where it may be tighter than ideal for the broader economy, and monetary policy can provide some offset."
Markets pricing in cut
Financial markets are pricing in a 60% chance the Reserve Bank of New Zealand will cut the Official Cash Rate at its March meeting, ASB chief economist Nick Tuffley said on Wednesday.
In a comment piece on Wednesday looking at the possible economic effects of Tuesday's 6.3 magnitude earthquake in Christchurch, Tuffley said ASB was itself placing a 35% chance of a 50 basis point cut in the OCR "in the short term". The OCR is currently 3%.
"The devastating earthquake is a further hit to an already weak economy, not to mention the personal toll," Tuffley said.
"The size and scale of further destruction will push back the timing of reconstruction, adding further uncertainty on the economic outlook. We have changed our OCR call: we now expect the first OCR hike in December 2011 at the earliest," he said.
"We also place a 35% chance on a 50 basis point OCR cut in the short term. Targeted support will be the most effective way of financially helping Christchurch people and businesses – as it was after the September earthquake.
"But this earthquake has come at a time when the economy is clearly vulnerable and domestic demand is weak. We would expect that a cut would be more a response to signs the wider economy is flagging, or to give some confidence‐restoring insurance."
Financial markets had reacted sharply to the earthquake, with short‐term interest rates falling around 20 basis points by the following afternoon in choppy trade, Tuffley said.
"Expectations of OCR increases over the coming 12 months have been reduced from around 50 basis points to 25 basis points, and markets have now priced in around 60% chance of an OCR cut at the March meeting. Given the scope for an emergency rate cut, we suggest keeping an eye out at 9am each morning over the next week.
"However, the RBNZ will need time to assess the situation and the implications and we do not expect any knee‐jerk reactions," he said.
The case for cutting was more “why not” than anything else.
"For Canterbury, targeted assistance from government and banks will be most effective," Tuffley said.
Here are the latest comments from ASB economist Jane Turner on Thursday morning:
The personal, economic and financial ramifications for the entire economy from the February 22nd earthquake are becoming increasingly severe as more information comes to hand. At a time of national crisis, when the underlying economy is already proving frustratingly weak, a rate cut would potentially be very helpful to the recovery of the economy. We expect the RBNZ to deliver a 50 basis point rate cut at the March 10 meeting, if not sooner.
The Christchurch CBD faces destruction far beyond that experienced in the September earthquake. As a result, the level of disruption to economic activity will be far greater. Cantabrians face a massive challenge in restoring their region following February’s earthquake. The damage to infrastructure has been greater than the September 4th earthquake. The CBD is going to be out of action for a very long time, with buildings collapsed and others still threatening to fall.
The details remain sketchy, and NZ continues to face huge uncertainties. But we can conclude that this earthquake will take a larger toll on both Canterbury and the wider national economy. The financial cost is likely to be much higher than the September quake. Much of it will be insured. However, there will still need to be a large diversion of private and public funds and resources to the Canterbury region. The cost to the Government is likely to be much larger, at a time where the economic back drop is posing challenges to the Government in meeting its Budget. Fiscal policy is likely to find itself in a position where it may be tighter than ideal for the broader economy, and monetary policy can provide some offset.
Prior to the earthquake, the RBNZ had already flagged the possibility of an OCR decrease over this cycle should domestic conditions continue to deteriorate. This followed a raft of underwhelming data, which indicated economic activity stalled over the second half of 2010. GDP data showed the NZ economy contracted in Q3, and the recovery in the labour market show signs of slowing more recently. The continued weakness in credit growth is also of concern, as households and businesses remain focused on paying down debt.
In addition, inflation indicators point to inflation pressures being contained for now, suggesting the RBNZ still have breathing space on the inflation front at the moment.
Overall, the patchiness of the underlying activity in the NZ economy means that continued monetary policy stimulus is appropriate. The latest Canterbury earthquake adds to this uncertainty, and suggests lower interest rates would be helpful to the recovery of the economy.
Here are comments from ANZ's Khoon Goh
- Early estimates of the direct cost of the earthquake in terms of destroyed infrastructure and buildings are in the range of $5 to $12 billion. It is likely to be at the upper end of this range, and this comes on top of the $5 billion bill from the September quake.
· The near-term impact on the economy will be significant. As a starting point, we are assuming a minimum 0.5 percent hit to Q1 GDP growth, but this is based on some fairly conservative assumptions. Numbers closer to 1 percent seem more intuitive. Adverse effects on confidence could exaggerate this further and impact on Q2 as well.
· The rebuild effort will be huge, but it will be significantly delayed, protracted (five years plus), and stymied by resource shortages. Not everything that was destroyed will be rebuilt.
· Our expectations of the economy being at a turning point in Q1 2011 have been pushed out by six months. We are back to square one in terms of the rebuild effort. There will again be significant unavoidable bureaucratic delays to getting work underway, although having experience and people on the ground from the September quake should help. Instigating a state of emergency signals a faster response time.
· The broader impacts on the economy (nationwide confidence, net migration, resource shortages, insurance industry responses, asset values, tourism) are much more difficult to estimate. But they will be negative, substantial, and long lasting.
· The financial burden of the earthquake will be massive. The Government will return to surplus much more slowly. A credit downgrade seems inevitable, though we are talking about margins of excellence in terms of AA versus AA+ (foreign currency rating).
· We are encouraged by the coordinated responses we are seeing. But this must be viewed in context of the need: this event is bigger than Ben Hur. Watch for business sector initiatives to support fiscal policy too.
· Fiscal policy and aid on the ground needs to do most of the work in regard to responding to Tuesday’s events. We expect a sizeable package next week. Immediate attention needs to turn to microeconomic policies that could assist in helping the reconstruction effort. This includes greater incentives to get people into skilled trades.
· Monetary policy plays second fiddle to fiscal policy in events like this, but should still do its part. The RBNZ has every justification to cut the OCR. We believe they should cut rates by 50bps, with at least 25bps of this coming at the March Monetary Policy Statement. We see little prospect of policy restarting a process of normalisation until 2012.
· Financial markets have responded quickly and appropriately, with the exchange rate and interest rates down sharply. We expect to see the yield curve steepen further.
Here's the view of Shamubeel Eaqub from NZIER.
· Damage not yet quantified (it will be sizeable, in excess of $5b from my contacts)
· Christchurch and Canterbury are a sizeable portion of the economy (15% and 11% of national employment respectively)
· Daily lost production in Canterbury is equivalent to around 0.15% of quarterly national GDP (Christchurch is around ¾ of Canterbury employment)
· Rebuilding would have peaked around 0.5% of quarterly GDP, which is now delayed
Policy response to EQ
· Monetary policy would have little impact, the problem isn’t interest rates. Lower interest rates will not fast-track safety checks, insurance assessments and payments or rebuilding. Could instead reduce NZD and raise tradable inflation.
· Better for the RBNZ to wait and assess the situation. Waiting a month will not have a material impact on policy traction (which is pretty small at current low interest rates)
· We prefer a more targeted fiscal response through welfare for households and businesses, and accommodation supplement type payments for mortgage and rent relief.
Implications for fiscal position
· Government will face additional costs (as yet quantified)
· But credit rating outlook unchanged as additional spending would probably see net debt peaking at around 35% of GDP, still low compared to peers
· Government can also re-prioritise projects, impose higher EQC premiums and impose one-off levy like Australia following QLD floods.
(Updates with Thursday morning update from ASB, ANZ view, NZIER view, links)
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