By Gareth Vaughan
There has been a lack of government response internationally to the Global Financial Crisis (GFC), says Kiwibank chief economist Jarrod Kerr, as he highlights the possibility of the Reserve Bank cutting the Official Cash Rate (OCR) below 1% next year.
Kerr issued a report on April 3 in which he puts a 40% chance on the OCR dropping to 0.75% next year, and predicts a volatile decent for the New Zealand dollar this year, potentially below US60 cents. His report is entitled Blood, Sugar, Brex-Magik: markets high on risk, and was written up here by David Hargreaves.
Speaking to interest.co.nz in a Double Shot interview, Kerr says a decade on from the height of the GFC interest rates around the world remain low. This means governments could still be more active in trying to help resuscitate economies than they have been.
"What I think has been missing in this post crisis world has been a lack of government response. Normally when you see interest rates drop this low, governments come out and start building and expanding and taking over the reins and saying; 'Right if we are going to have a healthy, productive, high growing economy, we need to start building some stuff now for 10, 20 years down the track.' And we just haven't seen it. We're trying in New Zealand, but we haven't done enough. And I think that's the disappointment globally, is that monetary policy has done everything it can and fiscal policy hasn't done much," says Kerr.
Governments could be building infrastructure by borrowing money at interest rates that are "ridiculously low," he argues.
"A 10-year government bond rate at 1.80%, that's the lowest we've ever seen. The government could issue billions of dollars at that rate and I think just about every construction worker in New Zealand could come up with a project that could easily cover that very, very low hurdle with interest. And we desperately need a lot more infrastructure in this country."
"The way we dealt with the crisis was lowering interest rates [and] quantitative easing. So inflating assets. And that generally helps the owners of assets. Income growth outside of that has been quite weak for the general public. Our wages growth for the last 10 to 15 years has actually been quite weak. So the asset owners, the rich, the wealthy, have done okay, and everyone else has either just stayed the same or got relatively worse. That's your widening inequality," says Kerr.
"How do you deal with that? It's a tough question and it's one that I think will take decades. But you really need to focus on education because the wave of automation and AI [artificial intelligence] that's coming through could potentially exacerbate that even further. You need the infrastructure so that poorer areas in your country have access to the major cities, have access to employment opportunities. There's a lot that needs to be done but it costs money."
'It's a double edged sword when you are cutting interest rates'
Meanwhile Kerr says the balance of risks globally is deteriorating and some of the stronger economies, such as the US, have lost momentum.
"And then you look at Europe and parts of Asia and growth that we're seeing out of that part of the world is also disappointing. So in terms of looking ahead it's a bit more clouded than we'd thought [it would be]. So I think we're in a position here where the central bank is looking at our economy and saying 'business confidence is clearly weak and there's something going on there, our currency's quite high and maybe we should take a bit of insurance out in the next month or so, cut the cash rate 25, 50 basis points and then see how we go from there'," Kerr says.
"Because cutting the cash rate in May, June, August type area you're not going to have an immediate impact. Monetary policy lags mean you're really trying to take out insurance on growth towards the end of this year and into next year."
"You're trying to ease up financial conditions a little bit more and if you look at what the banks have done with their mortgage rates recently, you've seen mortgage rates falling as wholesale interest rates have fallen. And we have actually seen a decent tick up from customers in response to that. So there is still a response to falling interest rates," says Kerr.
"So if the RBNZ wanted to put a firestarter there, cut 50 basis points, a large part if not all of it will be passed on to both mortgage rates but also to term deposits. So savers will also get hit here. It's a double edged sword when you are cutting interest rates. You can cut the borrower rates but you're also cutting the saver rates."
OCR cuts would increase the gap between the OCR, currently at 1.75%, and the US Federal Funds Rate, currently at 2.25% to 2.50%, adds Kerr, and get closer to other countries with lower rates, meaning there's less need to" hunt for yield" in NZ.
"International investors literally look around the world for high interest rates. And if we take some of that advantage away it reduces some of the flow into kiwi dollars," Kerr says.
"If we find ourselves in six months or a year's time where the currency has gone from 68, 69c today to [US]60c, that's great. That's a win for us, it's a win for our exporters, it's a win for our economy as a whole. So the need to then cut [the OCR] further is significantly reduced."
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