Rate cuts ahoy

The Reserve Bank is rapidly running out of excuses for keeping official interest rates as high as they are

6th May 15, 1:02pm by David Hargreaves

By David Hargreaves

The Reserve Bank is fast running out of excuses for why our official interest rates are so much higher than those in other countries.

With the benefit of hindsight it's clear that the action of our central bank in lifting the Official Cash Rate to 3.5% from 2.5% in the early part of last year was a mistake.

The RBNZ at the time saw inflationary risks that have proven to be, so far, illusory.

At the moment the RBNZ's official line is that it's keeping our rates at the current level - now a whopping 1.5 percentage points above Australia's - because it still sees medium term inflation risks.

That's the official line.

Unofficially it's clear that the RBNZ is scared of pouring the full tank of petrol that a rate cut would be on Auckland's already incendiary house market.

The problem is - in slightly technical terms - the RBNZ is using monetary policy (through the OCR) to handle a financial stability issue (Auckland house prices).

As recently as last week Reserve Bank Governor Graeme Wheeler said: "It would be appropriate to lower the OCR if demand weakens, and wage and price-setting outcomes settle at levels lower than is consistent with the inflation target."

Well, as the latest wage figures from Statistics New Zealand show, current wage inflation is running at just 1.7%, which is below the RBNZ's explicitly targeted 2% inflation rate (within the official 1-3% targeted range). The RBNZ will at least have been a little bit cheered that the employment/wage figures knocked the Kiwi dollar back sharply. The parity party with Australia's now officially off and the sausage rolls have gone cold.

But quite simply, unless there's some real indication that the United States is going to start lifting its interest rates - and all the recent data's pointing in the opposite direction - then the RBNZ's just about used up its last excuse for our 3.5% rates.

The RBNZ should be cutting rates - now - by certainly half a percentage point at least.

But, oh, the Auckland houses.

What our central bank will be doing, as you read this, is fervently working out new measures to deal with the Auckland housing issue.

These could be announced as soon as this week, or in next week's regular six-monthly Financial Stability Report (Wednesday, May 13).

If it is to be presumed that such measures - and along with the already foreshadowed move on property investors, the RBNZ might consider targeting interest only loans or some sort of income-to-borrowing limits or even increased capital 'buffers' to be held by banks - are introduced by September, then the RBNZ may see itself having a green light to cut rates, possibly in its September review or perhaps a month later in October.

But on that, it is worth noting that the September rates decision is accompanied by a full Monetary Policy Statement, while the following month the decision will just be accompanied by the one-page press release. Generally the RBNZ prefers to make significant rate changes in conjunction with the full MPS, so the ramifications can be fully explored.

But not necessarily, and it's worth noting that last week's significant change of emphasis on interest rates - to more of an easing bias - was effectively explained the week before in an on-the-record speech by Assistant Governor John McDermott.

If we assume that the cut in September/October will be of a quarter of a percentage point (and there's plenty of precedents for it to be more) then it could equally assumed there would be another cut before Christmas, with our rates likely ending the year at 3%.

The ASB has led what I suspect will develop into a chorus of bank economists also suggesting two cuts in rates before the end of the year. In fact, after I had written that, I received Deutsche Bank's latest bulletin (see link at bottom of story), which suggests the RBNZ could cut as soon as June. I really can't see that, but it just amps up the pressure on an already heavily pressured RBNZ.

I reckon right now our official interest rates should be closer to the 2.5% they started last year at, but thanks to that runaway housing market in Auckland that won't happen. And until some sort of order is restored in the housing market of New Zealand's largest city then the whole country's stuck with higher interest rates than they should have.

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.

24 Comments

by Problem Solver | 6th May 15, 1:19pm 1430875150

Perhaps we should change the name from 'interest' rates, since this no longer has any meaning. Interest was a way to describe the 'interest' investors had in a worthwhile financial enterprise, encouraging them to invest. For thoughtful investors there is nothing 'interesting' to see anywhere. Perhaps we could change the word to 'freerest' - money that can be had for free while it takes a good rest for investors, not doing any heavy lifting, or producing any valuable work.

by steven | 7th May 15, 10:04am 1430949896

You can invest in lots of endeavours, US shale has lots of very keen deals for your capital, just ask profile for his positive outlook in that area.

by notaneconomist | 6th May 15, 1:23pm 1430875391

The sooner the RBNZ cuts the OCR the better!!!

Here are a few essential markers they should be following.
Inflation is down
NZD is up
Commodity prices down
Household debt up
House prices up
Home loan interest rates down
Unemployment - call it sideways.

by iconoclast | 6th May 15, 1:41pm 1430876493

NOE:

Have you thought that through fully?

Bill English explained the main reason he missed his long awaited surplus was because of the substantially reduced tax take from taxable interest on bank deposits

The risk is if the RBNZ goes back into negative mode, people who are dependent on interest income (retirees) will turn their attention (en-masse) away from consumption to tax-free non-consumption activities such as property capital gains which will simply increase property prices further

by steven | 7th May 15, 10:37am 1430951823

Yes. a) Our tradeable sector needs to be profitable to remain in business. From the numbers I have seen that sector seems to be -1% already.
b) OAPs and their spending are not consumers that drive economies anyway.
c) OAPs are too frightened to move out of safe investments en mass.
d) If OAPs did, such gains would be clearly taxable.

So yes I am all for dropping the OCR at least 100basis points and have been for some years now.

by Grant A | 6th May 15, 8:32pm 1430901136

"household debt is up" and you think lower interest rates are going to assist that problem notaneconomist ? Yeah sure, makes it easier to service, but what it absolutely ensures is still more of debt and more risk to the economic welfare of this economy....what dipped the likes of the US and Spain into a horrendous almost depression ?,...property madness. So lower rates, another Auckland investment property into my portfolio, sell and buy that bigger house I always wanted, another FHB sucked into buying something that he can't afford when the cycle INEVITABLY turns - that's the thinking of far too many NZers. Those calling for a cut before either growth becomes a problem or inflation expectations start signally a much longer-term weak inflation problem (not one triggered by a oil crash that has taken NZ's CPI down by a full 1% in the last 2 Qtrs....and will stay at $46 forever...no, actually already up nearly 50% from those lows) really need to look more closely at the big picture

by notaneconomist | 7th May 15, 9:24am 1430947485

And if we don't cut the OCR...what do you think is going to happen??? You have to look at the external factors as well as the internal factors!! Internally there is every reason to drop the OCR and the external factors have NZ at odds with the rest of the world.

I'd much rather cut the OCR and cut the farmers and business community some slack after all they are the ones generating all income for starters, what follows and this includes Auckland house prices is secondary.......no doubt a few people don't realise this and view housing as independent of the rest of the economy, so some might have to learn a lesson or two....
.Are you suggesting that the RBNZ should save bad investors from themselves at the expense of farmers/exporters and the business community???
Are you also suggesting that the RBNZ should ignore the PTA and do its own thing?

NZ is far too small to be setting the OCR above all other players.....The RBNZ has not adjusted to globalisation !!

by steven | 7th May 15, 9:40am 1430948446

Totally agree.

"bad investors" no they should be hung out to dry IMHO. however trouble is those debts are left in the hands of the banks who's depositors in turn will expect the tax payer to bail them out.

by steven | 7th May 15, 9:34am 1430948083

"the cycle INEVITABLY turns"

the "big picture" LOL. For 10,000 years we always had access to more energy, not so now. Once peak oil digs in then we will see 4~8% decline per annum to 2050 when effectively oil will be gone. To grow GDP takes 1~2.5% more energy to give the annual desired 4%, that will apply in reverse and going down wont be as smooth as going up.

I find it interesting that those such as yourself claim to see the big picture but clearly from my viewpoint do not.

by skudiv | 6th May 15, 1:51pm 1430877077

Changing the OCR seems to be pissing into the wind anyway. At least as far as mortgage rates are concerned. The correlation between the OCR and mortgage rates is gone, where were mortgage rates when the OCR was 2.5% and where are mortgage rates today with the OCR at 3.5%?

by realterms | 6th May 15, 2:15pm 1430878532

Indeed, this seems to be overlooked a lot. The OCR is largely irrelevant to mortgage rates as long as fixed rates are lower (and set by overseas rates)

by King of the whiners | 6th May 15, 4:53pm 1430888001

Interest rates are already (as the RBNZ acknowledges) set at 'stimulatory rates' - the actual 'neutral' rate is around 4-4.5% according to their models.

The economy is growing at around 3%.

The principle driver of the drop in inflation was the fall in the petrol price at the end of last year - this has now almost fully reversed (though our 'professional' economists seem blind to that fact). Inflation will thus jump back into its desired band in due course.

Yet apparently there is a need to drop interest rates from already 'stimulatory' rates to rates that would be hyper-stimulatory, with an economy that is already steaming along.

Really?

In due course when the global economy really hits the skids the RBNZ will need all the dry powder (in the shape of IR cuts) that it can muster. Using up some of that ammunition now would be pure folly, when rates are already stimulatory and the economy is already growing strongly.

by Grant A | 6th May 15, 9:35pm 1430904936

Excellent post King of the whiners, you summed up the situation perfectly

by notaneconomist | 7th May 15, 10:21am 1430950907

If the economy was doing so well then business would have contributed more in taxes and it hasn't been able to achieve this!!

There has been plenty of dialogue on here in regards to how growth is measured so not really worth my time commenting on this again here!!

The RBNZ hasn't learnt the basics of business...e.g. Do you wait until you have no grass and the cows, sheep etc have lost weight and can't get in calf/lamb and affect all of this years and next years production or do you de-stock buy in feed/grazing etc and mitigate losses ASAP......dropping the OCR right now is the best option for NZ, all that business and agriculture debt that is piling up is cheaper to service and assists NZ in being more competitive and any benefits can then float through to the rest of the economy........

If the RBNZ takes action later they are causing economic damage and suffering that is completely needless!!!

by Alter Ego | 6th May 15, 5:15pm 1430889318

Perhaps John Key would like to buy this guy a house....As an investment for the illustrious MR KEY...that is. He could take all his pension and then some.

Even if the poor bloke did not have debt the Interest rates in Deposits are sliding.....so many more Pensioners may be in the same boat...sorry car....soon enough.

http://www.stuff.co.nz/the-press/news/68264000/Pensioner-living-in-his-…

No problems with Housing...NO SIREEEEEEEEEEEE. What crisis.??

Ye gods and little fishes...wake up man. Get out in the real world....Stop, look, listen. People still need a roof over their heads, not bigger damn overheads. with MYOPIA.

Social Welfare for the rich..Speculators.??

And as one comment said...we are spending 25 million on a stupid flag.....is he insane or what?.

Where did we all go so wrong.??

by PeterPen | 6th May 15, 8:34pm 1430901282

Where we have gone wrong? Everywhere. Lost all sense of decency and become greed animals. And John Key with his ill gotten wealth from currency speculation is leading the pack. Wouldnt we all love to be like him? "Career" in a (now broke) investment bank, houses in Hawaii, Singapore, Remuera, Omaha and God knows where else. John is our role model. We all pray that our kids turn out like him, doing productive things like currency speculation first and talking political crap later.

C'mon it is not John's fault. We put him there because the majority of us is just as greedy, indifferent and boring as he is.

by Kate | 6th May 15, 8:46pm 1430901982

We all pray that our kids turn out like him, doing productive things like currency speculation first and talking political crap later

Or we could just wish to have folks wealthy enough to send us to Paris to become our very own alter ego for a living;

http://www.nzherald.co.nz/nz/news/article.cfm?c_id=1&objectid=11438715

by Alter Ego | 7th May 15, 10:15am 1430950514

In the pink for some. I was gonna say "On the bare bones of their ----".. but that would be rude.

by JT | 6th May 15, 7:04pm 1430895862

Give me my rate cut now. Every other country is getting one...

by PeterPen | 6th May 15, 8:29pm 1430900948

If it is true that the AKL house bubble is fuelled by foreign cash buyers, then fiddling with the interest rate wont make a difference anyways.

And the Kiwidollar is falling fast, even without any interest rate action. Dairy prices down again, rents down in AKL, too, making investments look a bit dull even for Chinese who have never set a foot into NZ.

Looks like the NZ economy has turned the corner and is now heading for the inevitable recession. After all, we have "invested" all the good printed cheap money from overseas into ripping each other off thru inflated house prices and not into creating anything new to keep the economy going through a weaker phase. Arent we smart? Nearly as smart as the Australians are who squandered their China boom even more effectively.

by Problem Solver | 7th May 15, 9:33am 1430948011

I don't know if anyone else is watching, but yields on government debt are sharply up. This may or may not be the start of the unraveling of artificially low interest rates, but it illustrates that the onus has been suppression of rates, not restraint in reducing them, when one comment from a Fed banker can fire this sort of sell off.

by steven | 8th May 15, 7:34am 1431027272

The Fed has tried the classic thing of dropping interest rates in order to stimulate the economy. Consider the lack luster GDP growth that has resulted with this massive stimulus and then ponder if when the Fed starts to withdraw it just how the economy will do.

by sharetrader | 8th May 15, 1:03am 1431003826

starting to increase all over, people are now pricing in oil inflation, and in the USA they are starting to push the fed to tighten by at least 25 bps very soon to get back to normal range. I can see our dollar going down which will increase inflation here so I think the OCR wont go down but hold

by steven | 8th May 15, 7:32am 1431027126

Two things,

a) The thing is as a cost increases (which petrol is) with no more money in ppls pockets (as wages are going no where) ppl will spend less elsewhere. I mean if all you have is $100 and your fuel bill goes from $10 a week to $11 then somewhere else you will spend $1 less. A very simple concept, yet is hugely overlooked for the last 6+ years.

b) The old "Normal" was grow exponentially for ever on a finite planet, even simple math shows this is an impossibility, unless you think the earth is flat. ie fossil fuel is a finite resource that has a max production per day. Then to grow GDP 4% (the ideal apparently) we will consume 1~2.5% more fossil energy to do it. ergo once we are at maximum per day production, that is it for GDP. The new normal however is what we are seeing today as we are at peak, ie no more growth except that financed by debt which is a call on future energy of which there will be less. Ugly will take on a new meaning IMHO.