Economic Weekly: The outlook for Wednesday

The RBNZ will face into an interesting set of crosswinds when it meets this Wednesday.

The domestic economy has clearly continued to run hotter than the RBNZ’s wintry forecasts. The mercury-busting capacity indicators from last week’s QSBO confirm the economy is overheating, a risk we’ve warned of before. The economy is at or close to full employment and labour shortages are rife. What’s more, we think capacity indicators will tighten further. The tailwinds for consumer price inflation and wage growth are thus much stronger than the RBNZ previously forecast.

In short, the economy no longer needs its winter warmers. Accordingly, we brought forward our forecast for the first RBNZ rate hike to this November (from May 2022) last week. It’s since quickly become the consensus. But the question has to be asked, if we’re all so sure rock-bottom interest rates are no longer needed, why wait? After all, November is still four months away and the RBNZ’s favoured “least regrets” analysis much have surely flipped 180 degrees from “chuck the kitchen sink at it” to “woooah back!”

We don’t buy the argument that the debt-laden housing market can’t handle higher rates. Our own research finds households have plenty of buffer to cope with higher mortgage rates. Instead, the key restraining factor is probably the odd polar blast shooting across NZ from the global economy. There’s growing unease about the spreading delta variant, and the attendant health and economic risks. It’s proving frustratingly difficult to contain even in highly vaccinated countries, or those back in lockdown. There’s also the fact that central banks globally – and importantly the US Federal Reserve and RBA – remain reluctant to ease off the accelerator. This means the RBNZ would be going it alone, at least at first. The RBA is still talking about leaving rates where they are until 2024. A three-year gap in NZ-AU tightening cycles would be unprecedented...and seems unlikely to occur one way or the other. 

Waiting would give the RBNZ time to assess the above. But this brings its own risks. The economy’s potential to supply could fall further behind demand, forcing the RBNZ to play catch-up. For this reason, we favour the stitch in time approach of getting started sooner. We wouldn’t rule out the possibility of the Bank making a start as soon as August, using this week’s meeting as a possible set-up. In the least, we think the Bank will move to an explicit tightening bias on Wednesday. Any signal about an end-date for its asset purchase (quantitative easing) programme would confirm this.

This week’s economic data are expected to support the case for higher interest rates. Tomorrow morning’s June REINZ data will likely show the housing market remaining stubbornly strong. We think house prices likely recorded another 1-2% gain over the month, even as annual house price inflation cools a little from last month’s 30% record. On Friday, annual CPI inflation is expected to print at an above-market 2.8%, a big jump from last quarter’s 1.5% and a 10-year high. Above-3% inflation beckons by the end of the year.