Roger J Kerr sees our economy humming with low mortgage rates and high export prices driving the higher activity

 By Roger J Kerr

The debate as to "when" and "by how much" short-term interest rate will increase in New Zealand over the next 12 months has taken on a new intensity since RBNZ Governor Wheeler announced the home mortgage LVR regulations on the bank lenders.

It seems quite a number of market players and participants were really quite surprised that Mr Wheeler used the opportunity of a speech to release the new regulations.

However, the prospect of the new speed limits for aggressive bank mortgage lending was very well sign-posted in advance in my view and there was no surprise as to the timing or content.

Commentators have been calling for additional tools in the monetary policy kitbag for years, to sit alongside the heavy sledgehammer of interest rate increases, yet when the RBNZ finally produce the other tools there is over-the-top debate as to how effective they will be in isolation.

None of the tools by themselves can be the silver bullet to deliver the monetary conditions the RBNZ want, it is the overall combination of tools used together to control inflation without impeding GDP growth that counts.

Interest rates are still going to increase next year, and as always the speed and extent of those increases will be entirely dependent on the economic data between now and then.

If the data is continually strong and thus future inflation risks are elevated, then rates will be up sooner rather than later.

The LVR control mechanism is a small contributing tool around the edges, in no way is it designed to replace the interest rate lever as many seem to think it can or should.

My view all along has been that the LVR’s may buy Wheeler some time with OCR increases as he is very worried about increasing NZ interest rates too far ahead of the US Federal Reserve increasing their rates and thus sending the Kiwi dollar soaring again and damaging the export engine room of the economy in the process.

Interestingly, the 12 month forward pricing for 90-day rates reduced from a 100 basis points increase to 75 points last week following the LVR statement.

So, for the meantime he may have brought a small amount of time and that is all the RBNZ would be hoping for.

I see the LVR controls sitting alongside other initiatives to spread and mitigate the collateral damage on the economy when the property markets and inflation hot up.

The core funding ratios on the banks can be tweaked and it now seems the Government is getting some traction with forcing Local Government Councils to be less draconian on property development levies for new housing sub-divisions.

On the economic data front, the news continues to be very positive.

Last week the producer’s price index was up, wholemilk powder prices were up; immigration was up, future inflation expectations were up and the ANZ regional growth trends survey was once again up very strongly.

The economy is humming with low mortgage rates and high export prices driving the higher activity levels.

Interest rates will change and both borrowers and investors have had ample opportunity to position/hedge against the financial risks.

Upcoming data for building permits and terms of trade (export/import prices) will add to the upward momentum.

The RBNZ Monetary Policy Statement on September 12^th will be the next focus for the moneymarkets as they await the central bank’s reading of the unquestionably stronger economic trajectory in 2013. 

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Roger J Kerr is a partner at PwC. 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