Roger J Kerr challenges RBNZ view on inflation - thinks it is being driven by different factors

Roger J Kerr challenges RBNZ view on inflation - thinks it is being driven by different factors

By Roger J Kerr

There has been much analysis and debate in New Zealand over the last six months as to why this economic recovery out of recession back to positive GDP growth is fundamentally different to all other economic recoveries.

The argument goes that this it is entirely different this time because the pick-up in the economy is not consumer spending-led and therefore the inflation risks stemming from stronger growth are less concerning.

Households still have too much debt on board to go crazy buying new fizz-boats, TV’s and holidays homes.

Therefore there is a valid argument that RBNZ can delay increasing the OCR as the inflation risks are different.

I don’t agree with this thinking at all.

The RBNZ gurus like this line of reasoning as they have always seen our inflation risks coming from the demand side of the economy with excessive consumer demand fuelled by housing prices/credit expansion. For this reason the RBNZ are not likely to lift the OCR and return monetary policy settings from 'super loose' to 'neutral' until they see retail sales, house prices and credit growth increasing significantly.

They don’t see the inflation risks occurring until the demand side increases.

The reality of the NZ economy is that most of the inflation comes from the supply side of the equation, be it commodity prices, oil, rents, electricity or building costs.

Price increases from these sources can still push annual inflation above the RBNZ’s limit of 3.0%.

However, the big question is whether pushing interest rates upwards to slow consumer demand will have any impact on these supply-side sourced inflationary pressures.

Probably not.

Herein lays the dilemma of only relying on monetary policy (interest rate changes) as the sole controller of inflation in New Zealand.

The core funding ratio regulation on bank borrowing does provide another lever for the RBNZ to pull, however again this is all about restricting credit growth to the feared residential property sector.

What is the RBNZ doing about the supply-side inflation risks that will potentially cause them to breach their 3.0% inflation ceiling next year?

The answer is sweet bugger all!

The RBNZ are mandated by the Government of the day to control inflation between 1% and 3%, however they seem to think it is someone else’s responsibility to push for proper competition policies and control public sector price increases. Most of our inflation continues to come from these two sources, but you never read about this reality in the RBNZ’s Monetary Policy Statements. Their view of the sources of inflation and how you address those pressures remains far too narrow in my opinion.

Until we have a wider inflation control mandate for the RBNZ to highlight the true sources and prompt change we will have sub-optimal management of inflation in this economy.

If I was the Governor of the RBNZ, I would currently be worried about the following sources of inflationary pressures outside the obvious food and petrol price increases:-

- Inflationary expectations increasing from the high headline inflations rates of late.
- For the last 10 years China has exported deflation to New Zealand with price decreases on imported consumer goods. Massive wage increases in China has now ended this deflationary phenomena.
- Wage demands and settlements will be sharply higher over the coming 12 months as workers seek a catch-up on the zero increases of recent years.
- Building costs have to increase as local construction industry resources cannot meet the Christchurch rebuild demand.
- Rents are also likely to continue increasing as wages lift and residential property construction remains well below historical averages - that is, housing shortages.
- Current low capacity utilisation in the economy will not last much longer as production is ramped-up by agriculture exporters and manufacturing exporters selling into Australia.

Add on constantly rising electricity prices and local body rates and the end-conclusion is elevated inflation risks.

I re-read the 9 June RBNZ Monetary Policy Statement and did not get the impression that these aforementioned inflations risks are well recognised and understood.


 * Roger J Kerr runs Asia Pacific Risk Management. He specialises in fixed interest securities and is a commentator on economics and markets. This column was written before the Monday quake. More commentary and useful information on fixed interest investing can be found at

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I agree with Roger on this...but the reason the RBNZ are taking that spin line is down to the election porking Nov expect a flipflop overnight and then the race will be on to catch inflation...leading to a boot up the bum for those floating on the sea of debt that is washing these islands.....Best advice is fix now.

On top of the supply side push..already taking place...the quake rebuild and the rotten house rebuild will together be the excuse used by the players to shove up prices costs fees charges and the govt will do stuff all cos they want the gst cream off the top.

You might see building going on the parts of Chch but you will see bugger all elsewhere.

Of course you would be trying to talk up an OCR rise being a fixed interest dealer, out here in the productive world we are in a slight recovery and I think the reserve bank is acting perfectly. Yes there may be a higher than normally acceptable inflation but hey we are close to the edge. If we start pushing the OCR up we could start sinking marginal and overgeared businesses. The forced sales could/will cause a property/land price collapse and potentially a deflationary spiral. The worst thing in the financial industry are hedge fund/money managers try to talk the market in a particullar direction for there own gain.

QED the ocr being held down to pork business amounts to a a benefit....right?

Yep, but by that rational putting it up would equate to a subsidy for fixed interest saving, the point of the floating ocr shouldnt be to push us back to high interest rates just to retard inflation but balance a financial system. One that can adapt to different economic conditions so our country can survive recessionary times and prevent them coming on if they can. Inflation is the grease that is sometimes necessary for the greater good and im glad Bollard is finally choosing/aloud to let inflation roll a little bit and not merely acting an automatic inflation valve. OCR rise would put the boot into this country at the very time we dont need it.

Roger if we increase the OCR we encourage the desire or the interest return to foreign investors buying up our currency and/or investing in our country's assets, this pushes up the value of our dollar and reduces the impact of China's wage growth - yes we continue to happily fund their pay rises through our debt. At the same time our supposed export led recovery drowns as our products become less affordable overseas on their store shelves.

Now you can argue that a low OCR is bad for savers and I'd agree to a point.

This time it is different because back during the last depression (which ever-one you might want to refer to), debt and borrowing weren't a problem. That is, the people didn't have the ability to leverage there homes up to 100% with mortgages. This time in New Zealand debt is rotting our system as per the PIIGS and America and the IMF could buy out our country for pennies in the dollar if we get it wrong.

Your advice is self-serving Roger towards the interests of your exclusive clients and I think not in the best interests of the average person in the street who would be best served when manufacturing jobs come back to New Zealand and our borrowing capacity is reduced.

well said imho.