Economic Weekly: Don’t Look Back in Anger - the case for a fast start

As well as a Britpop banger with nonsensical lyrics, our title is also a tidy re-phrasing of the Reserve Bank’s favoured ‘least regrets’ framework. That is, the future’s all a bit murky so choose the path likely to cause you the least amount of future cringe. Sensible advice, and not just for monetary policy…

Anyway, the least regrets idea has had a big influence on policy setting during the COVID era. If in doubt, throw the kitchen sink at it, because things look awful. But things have changed. The path of ‘least regret’ has flipped 180 degrees to the RBNZ not reducing stimulus fast enough. The Bank confirmed as much in July. This is important in framing the risks around policy making over the remainder of the year.

The RBNZ has already met its inflation and employment objectives. Actually, we now know it probably met them a couple of months ago. There’s still debate about the permanence of the upcoming spike in headline inflation. But core inflation is likely to remain above 2%. Further, last week’s labour market data confirmed we’re at, or above, Maximum Sustainable Employment. Sub 4% unemployment beckons next quarter and we expect wage growth to accelerate further. And yet, the Official Cash Rate is still at 0.25%.

Last week we changed our call to expect 25bps rate hikes at each of the next three available RBNZ meetings, which would get the OCR back to its pre-pandemic level by year-end. As Lisa Carrington has shown the world, a fast start can pay dividends.  And so it would also be worth the RBNZ considering the pros and cons of starting with a 50bps lift. The traditional argument against is that a double-up can spook markets and cause volatility. But markets are already pricing a 12% chance of a 50bps raise, and we doubt a 50bp lift would surprise the economic consensus.

Yes, there are risks from the spreading Delta variant. The Australian outbreak is too close for comfort. But the clear and present danger is that economy continues to overheat, allowing inflation to get away. If things change down the track (*touch wood*), the RBNZ can always back off, just like we saw from the Reserve Bank of Australia last week. 

The other reason to get a fast start is housing. We never bought into the dire predictions for house prices we saw in the wake of the Government’s tax changes. And, indeed, momentum has slowed a little, but not enough. Annual house price inflation is still chugging along at a 15-20% annualised pace. This week’s only notable economic data release – REINZ housing figures for July ­– is likely to highlight the point.

The RBNZ is frustrated with continued “risky lending” and is going back to the macroprudential tool-shed to find a bigger hammer. Ideally it wouldn’t have to. Using interest rates to douse the housing market is cleaner and potentially less distortionary. Making a fast start with interest rates – whether it’s three 25bps hikes in a row or an initial 50bps – might avoid having to play catch up down the line. With one eye on COVID, it seems to be the path of lesser regret.

Contact us

Mark Smith

Senior Economist

Mark joined ASB in 2017, with over 20 years of public and private sector experience working as an economist in New Zealand and the UK.

His resume includes lengthy stints at ANZ and the Reserve Bank of New Zealand, and he has also worked at the Bank of England, HM Treasury and the New Zealand Transport Agency. Mark's areas of specialisation include interest rate strategy, macro-economic analysis and urban economics.

Born and bred in the Waikato, Mark studied at Waikato University where he graduated with a Master of Social Sciences, majoring in Economics.

Mark's key strengths are the ability to use his extensive experience, inquisitive nature, analytical ability, creativity and pragmatism to dig a little deeper and to deliver common sense solutions to tackle complex problems.

When not at work Mark likes to travel, keep fit and spend time with his friends and family.