Only tighter fiscal policy allows looser monetary policy

Roger J Kerr expects no OCR cut from the new RBNZ governor despite what the markets or commentators think. Your view?

10th Oct 12, 6:34am by Roger J Kerr

What are the chances of the new RBNZ Governor, Dr Graeme Wheeler, being pressured by certain political parties and some so-called business leaders into cutting the OCR to bring the Kiwi dollar down?

Absolutely zilch in my humble opinion.

All the new Governor can really do is exerting some pressure across the road on the pollies to tighten their fiscal position.

If the Key/English Government can do that, the smaller budget deficits would mean reduced issuance of debt and thus reduced demand from Asian central banks and sovereign wealth funds to buy our dollar to buy the Government Bonds.

The new Governor should be well aware that Kiwi’s consider mortgage interest rates below 5.50% as cheap money and they eagerly buy real estate in response.

To lower the interest rates any further is inviting another residential property market surge that threatens the inflation rate.

For these very good reasons the Governor will not be entertaining an OCR cut anytime soon, even if the Aussies are busy doing just that.

The resulting lower AUD/USD exchange rate will bring our currency down with it and provide the relief everyone is calling for from the high dollar.

You continue to hear some pundits advocating that more inflation is what the economy needs, which is tantamount to giving all workers a pay cut. Likewise, for those gurus calling for the NZ dollar exchange rate value to be set artificially lower, what they are really saying is that all consumers should put their combined hands in their pockets and subsidise a few exporters who fail to manage their financial affairs and are closing plants/laying off workers.

How fair is that comrades?

The other interesting development in the world of interest rates is the flood of Mum and Dad retail investment monies which are leaving bank deposits in search of higher yielding dividend stocks on the NZX.

The lack of new corporate bond issues this year is exacerbating the issue for smaller investors and the banks.

The deposit withdrawals will not be hurting the banks for a while as they have pre-funded their lending books a long way in advance over recent times.

However, if the switching into equities continues the banks will eventually have to lift retail deposit rates to attract money in and retain what they have.

Official OCR and wholesale short-term interest rates may well be 2.50% and 2.65% respectively, however the banks are paying up to 4.00% (some higher) for funding, so the true market interest rates are not as low as many perceive.

------------------------------------------------------------------------------------------------------------------------------

To subscribe to our daily Currency Rate Sheet email, enter your email address here.

------------------------------------------------------------------------------------------------------------------------------

* Roger J Kerr runs Asia Pacific Risk Management. 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

No chart with that title exists.

We welcome your comments below. If you are not already registered, please register to comment

Remember we welcome robust, respectful and insightful debate. We don't welcome abusive or defamatory comments and will de-register those repeatedly making such comments. Our current comment policy is here.

6 Comments

by Poission | 10th Oct 12, 8:51am 1349812288

The fundamental problem is the abscence of robust fiscal policy.The asymmetry in the subsidized property investment sector is the underlying issue,and the reason for the increased borrowing by Agriculture (for land capture eg Crafer) a 47% increase since the GFC, and housing a 20% increase, for a total of 44 billion in debt.

There is a need for structural change in the system,whether it is a removal of interest deduction for investment property or cgt or an asset tax,is yet to be ascertained,but an unbridled system is clearly not working.

The risks at present are significant,at the present fonterra payout level 20% of farms will not be able to repay capital.

What benefit for the NZ economy does a non resident purchasing investment property in AK no one can ascertain.

At present the high TWI will persist,and the agriculture sector will be unable to capture any real price increases.

The underlying structual changes in the US are evident,paying down of private debt ( 4 trillion) decreased investment in financial stocks and into low risk savings funds.

That there is a substantive correction to financial institutions structures over the horizon globally is almost surely evident as Haldane from the BOE suggested last week.

When that bubble popped in 2007, so too did market valuations. Today, most global banks are valued at a discount – many at a small fraction – of their equity book value. Today, an investor who had placed $1 with a bank would on average have seen that return as little as 50 cents. Once a value-creation machine, banks have become a value-destruction machine; in response, bank investors are seeking shelter and bank

balance sheets have begun a crash diet.

There is a signifacant problem with risk managers and risk analysts,they are logically undereducated and have very litttle understanding of probability theory.

William Feller as rather clear on this point.

Simple methods will soon lead us to results of far reaching theoretical and practical importance. We shall encounter theoretical conclusions which not only are unexpected but actually come as a shock to intuition and common sense. They will reveal that commonly accepted notions concerning chance fluctuations are without foundation and that the implications of the law of large numbers are widely misconstrued.

by Wolly | 10th Oct 12, 8:58am 1349812735

Robust fiscal policy.....harrrrrrhahaaahaaaaa...fat chance in Noddyland...property speculation still the number one activity. Got the full backing of the banks and the pollies. Until that lot unload their property investments, expect no change.

Pigs will fly first.

by Basel Brush III | 10th Oct 12, 4:37pm 1349840227

Let's be simplistic.

Drop the OCR by 1% and bang 1% as a tax on all new mortgages and on old mortgages after a period of adjustment.

Too simplistic? So what.

by iconoclast | 10th Oct 12, 5:16pm 1349842595

All in favour of the "william of okham" stuff there Basel .. but, a theorem has to be able resolve all inputs to the equation .. the people I'm thinking of, the ones who are pushing up prices, don't do mortgages .. they don't need to .. and any of the locals who have accepted the dirty confetti from the people I'm thinking of are paying down their mortgages and or downsizing .. how would you nail kimble.blob.com and james.avatar.cameron and others?

by Basel Brush III | 10th Oct 12, 5:43pm 1349844183

Well, iconoclast, remember that the cashed up crowd are mainly there for the capital gains. With the tax concept, a lot of market softness is likely and those 5% or less (my number, perhaps) like the 'hot money" brigade and the Asian bolt-holers would lose their reason to be in NZ as opposed to taking on US, UK and Australian options.

Perhaps a potential future government could also threaten to drop them in it .

There is nothing like uncertainty and potential loss to change investment direction.

by iconoclast | 10th Oct 12, 6:14pm 1349846071

I might be missing something in your proposition. I read it that if you tax mortgages, you will (eventually) mainly (only) be taxing those poor local-yokels at the bottom of the heap who NEED mortgages, and they will be squeezed out of the market, and once they are squeezed out and not chasing prices, all prices will then either stabilise and or ease, which means it will simply cost less for the cowboys and the bolt-holers. The bolt-holers are here because local nz property is half the cost of what they have to pay in there own jurisdictions, and with a 50% cushion (margin) they have a lot of lee-way to play with.