Economic Week - August 9

by Nick Clark

A big week for economic data.

OCR slashed…where to next?
Markets and economic commentators were stunned by the Reserve Bank’s 50 basis point slashing of the Official Cash Rate, taking it down to just 1.00%.  The only other times we have seen such big cuts was immediately after the 9/11 terror attacks and during the 2008/09 Global Financial Crisis.
Although employment is around its maximum sustainable level and while inflation remains well within 1-3% target range, the Reserve Bank is worried about slowing GDP growth and rising economic headwinds – at home and abroad.  In the absence of additional monetary stimulus, it thinks employment and inflation would likely ease relative to its targets.
Banks rushed to cut their floating and fixed residential mortgage interest rates (good for borrowers but bad for savers) but it remains to be seen if these flow through to farm mortgages and overdrafts.  Meanwhile, the NZ Dollar tanked, losing a cent against the US Dollar in the immediate aftermath.  A lower exchange rate will help boost farmgate prices for our export commodities like dairy and meat but it could also make imported inputs, including fuel and fertiliser, more expensive.
Where to next?  At least one further OCR cut is likely but with each cut there is less room for further cuts if the economy continues to slow or if there is an economic shock, say from the global economy.  Unconventional monetary policy, like quantitative easing, is being considered but its experience overseas has been mixed and it should be a last resort. 

Find some mates
The Reserve Bank said it could do with some ‘mates’.  The Government’s finances are healthy with a big surplus for the recently finished 2018/19 year and net debt around 20% of GDP – low by international standards.  That would imply room to move but thanks to big spending increases in the 2019 Budget the operating surplus for the current 2019/20 year is forecast to be much smaller and if the economy slows further it could disappear altogether.
The Global Financial Crisis and the Canterbury earthquake have shown that it is not essential to maintain a surplus during an economic downturn or in response to a shock.  But deficits should not be allowed to become imbedded structural deficits that cannot be easily unwound when times improve or if the fiscal position deteriorates badly.
Most farmers tell us they want a continuation of prudent fiscal policy but the Government has fiscal policy mates it could deploy, such as:

  • Borrowing more to fast track infrastructure projects. Net government debt is low and long-term interest rates are at historic lows, so more infrastructure spending, provided it is on projects that will improve capacity in the economy, would be a sensible use for increased borrowing.There are certainly plenty of projects it could advance.
  • Tax cuts to boost spending and investment. Tax cuts would boost disposable income and consumer spending and, in the case of businesses, would boost investment.Tax cuts, by leaving the Government less to play with, should also keep it from going on a spree of unproductive wasteful spending.Although tax cuts are not favoured by the current Government they can be targeted to help lower and middle income people.
  • One-off targeted spending boosts like lump sums to beneficiaries and low-to-middle income people or subsidies for businesses to hold onto employees. One-off targeted handouts might make sense if the idea is to shore up activity, but caution would be needed to ensure they don’t become costly ongoing entitlements.
  • ‘Permanent’ spending increases over and above those already budgeted to allow departments to pay their employees more or simply for them to do more.While health and education could always do with more money, permanent untargeted spending increases are likely to result in more wasteful spending and would be risky for the longer-term fiscal position, especially with an ageing population.They would also be much harder and more painful to unwind when required.

Of course the other ‘mate’ the Government could deploy is commit to address the ‘elephant in the room’, the dire confidence of businesses and farmers, rather than just brushing it off as political bias.  This includes easing off or at least moderating policies in the employment, environmental and climate change areas which are causing so much anxiety and a sapping of confidence.

Speaking of confidence…
The results will shortly be out for Federated Farmers July 2019 Farm Confidence Survey, but in the meantime a quick preview…. 
As with other business confidence surveys, most farmers think the economy will worsen over the next 12 months and sentiment has deteriorated since the last survey done in January.  On a slightly more positive side farmers are less negative than they were in January about their own profitability over the next 12 months.
Production and spending indicators softened compared to January but they remain net positive (i.e., more expecting to increase than reduce their production and their spending).  More farmers expect to reduce debt than increase it and farmers have continued to find it increasingly difficult to find staff.
Significantly, the survey shows a big jump in farmer concern about climate change policy and the ETS and this is now the biggest concern for farmers.  In second place was regulation and compliance costs and in third place was debt, interest and banks – also up as a concern.

Commodity prices down
Lower dairy and forestry prices pushed the ANZ World Commodity Price Index down 1.4% in July compared to June.  It was also down 0.5% compared to July 2018.
Dairy prices fell 1.6% in July compared to June but they were stronger later in the month.  The meat and fibre index lifted 1.6% in July following a similar lift the previous month. Higher international prices were recorded for both beef and lamb, but wool remains weak with prices down 14.2% on a year ago.
The horticulture index rose slightly, up 0.2% in July compared to June, but the forestry index slumped 8% as demand from China for logs fell away.
A stronger NZ Dollar exacerbated the month-on-month fall to 2.8% although NZ Dollar prices remained slightly higher (by 0.3%) compared to July 2018.
Despite the recent drops commodity prices remain high by historical standards but looking ahead we could be in for a rocky road if the slowdown in the Chinese economy and trade tensions persist.

GDT down
After increasing a fortnight ago the Global Dairy Trade auction fell again at this week’s event, dropping 2.6% - unwinding almost all of the previous auction’s 2.7% gain.
Prices were down across the board.  The biggest commodity by volume, whole milk powder, was down 1.7% and the next biggest, skim milk powder, was down 1.6%.  Most of the other commodities had bigger losses.
Overall, the average selling price was $US3,253 and 34,969 tonnes were sold.
This is the fifth decline over the past six auctions.  However, the GDT Price Index is still 2.5% higher compared to this time last year.

Employment strong
The labour market has defied expectations with Statistics NZ’s Labour Market Statistics delivering a surprisingly strong result for the June quarter.
The number of unemployed fell by 7,000 in the June quarter to 109,000.  The unemployment rate fell to 3.9%, down from the previous quarter’s 4.2%, and to its lowest rate in more than a decade.  The number of people employed was also up 22,000 for the quarter and 45,000 for the year to reach 2.68 million.  The labour force participation rate was stable at 70.4%.
Meanwhile, April’s large increase in the minimum wage helped lift the labour cost index (LCI) measure of salary and wage rates by 0.7% in the June quarter, the biggest quarterly increase in more than a decade. The increases were particularly pronounced for retail trade (up 1.4%) and accommodation and food services (up 2.3%). 
On an annual basis the LCI was up 2.1% for the year.  This is ahead of the 1.7% rate of consumer price inflation.

NIWA Soil Moisture Data
NIWA’s latest soil moisture maps (as at 9am Thursday 1 August) continue to show that similar to recent weeks soil conditions across most of the country are ‘about average’ for this time of year, except the area around Oamaru and Waimate which remains significantly dryer than usual.


Exchange Rates

Not surprisingly given the market reaction to the OCR cut, the NZ Dollar down was down for the week against the Trade Weighted Index and against all our major trading partners.

 

 

NZ Dollar versus

This Week

(8/8/19)

Last Week (1/8/19)

Last Month (8/7/19)

Last Year (8/8/18)

US Dollar

0.6464

0.6553

0.6636

0.6736

Australian Dollar

0.9532

0.9567

0.9499

0.9066

Euro

0.5767

0.5930

0.5910

0.5805

UK Pound

0.5314

0.5401

0.5298

0.5206

Japanese Yen

68.68

71.57

71.97

75.03

Chinese Renminbi

4.5529

4.5552

4.5727

4.5901

Trade Weighted Index

71.93

72.56

72.83

72.67

Source: Reserve Bank of NZ

 

Wholesale Interest Rates

The slashing of the OCR drove big drops in rates for both 90 Day Bank Bills (down 27 basis points) and 10 Year Government Bonds (down 29 basis points).  Both are at new record lows.

 

 

This Week

(8/8/19)

Last Week (1/8/19)

Last Month (8/7/19)

Last Year (8/8/18)

OCR

1.00%

1.50%

1.50%

1.75%

90 Day Bank Bill

1.21%

1.48%

1.62%

1.90%

10 Year Government Bond

1.14%

1.43%

1.56%

2.75%

Source: Reserve Bank of NZ