NZ economy starting to benefit from booming export prices; RBNZ policy lags

By Roger J Kerr

Does the reasonably 'fiscally tight' budget from the Government provide Alan Bollard with more leeway with monetary policy settings over the next 12 months?

According to the pessimistic economic commentators who dominate the media, the answer is 'yes' and the RBNZ should keep interest rates at these super low levels for ever because all these media hacks must have whopping home mortgages.

The more likely economic track over the next 12 months is that the record high export commodity prices do deliver strong expansion above 4% in 2012 and the RBNZ are forced to recognise this late in the piece towards the end of this year.

The problem with the RBNZ view of the NZ economy is that they are never convinced about stronger economic growth until they see the housing and retail sectors start to hum. Of course, by then they are too late on the monetary tightening cycle and are normally forced to tighten policy settings rapidly to catch up.

One could look back at the export-led economic expansions in 1992/1993 and 2003/2004 when the RBNZ recognised the pick-up too late and were forced to play subsequent and severe catch-up (to the detriment of the export sector).

The RBNZ reticence is perhaps understandable as last year they bought into the improving consumer/business confidence indicators early on in the year only to be disappointed that the demand failed to materialise later in the year.

However, I believe we are now on a much firmer footing with the high export prices feeding through to the domestic economy.

Already over recent weeks employment and electronic retail sales data are displaying a fairly strong bounce-back from the earthquake-affected slump in confidence/activity in March.

Despite the woes about cashflow problems and squeezed profitability in the retail sector, they have been adding more new jobs over recent quarters than other parts of the labour market.

The key factor for higher rural incomes to now filter into wider spending across the economy is the lending attitude/criteria of the banks.

Rightly or wrongly our mainstream banks in lending to farmers are still asset lenders, not cashflow lenders. Now that rural balance sheets are repairing with recovering land values, the banks are increasingly becoming more comfortable with LVR ratios and such like. The banks’ combined hard-line on rural debt repayment is reducing in intensity and the freezes on farmer spending/investing are being lifted. For these reasons I see the strong export performance spreading benefits across the wider economy over the next 12 months.

Farming industry groups however should be concerned at RBNZ intentions to require the banks to hold more capital for agriculture sector lending.

Why is the RBNZ singling-out our most important industry for such additional credit constraint?

If farmers are grumpy with Labour Party policy planks to bring forward ETS-related costs, they should be equally upset and giving the RBNZ a serve about imposing selective industry constraints on bank credit allocations/returns on capital.

What does all this mean for the path of short-term interest rates over the next 12 months?

Both borrowers and investors should factor in 90-day to three year interest rates remaining near to the current low levels until September/October; however the mood and the pricing in the moneymarkets will start to change after that as they realise that the RBNZ is well behind the 8-ball yet again.