Market Update May 2018 - Bernard Hickey

Evolution, rather than revolution

Sometimes, what appears to be a massive change is actually more evolutionary than revolutionary.

The new Government came in last year with a hiss and a roar, banning foreign buyers, promising migration cuts, reversing tax cuts and arguing it had discovered massive infrastructure deficits that needed fixing. It announced big increases in the minimum wage and a families package that boosted low incomes substantially and pledged to reverse nine years of employment law changes.

It also put its own choice in as Reserve Bank Governor and changed the foundation of monetary policy to a dual mandate that took employment into account as well as inflation. 

These all sound like massive changes, but now we have the first round of reporting milestones on both monetary and fiscal policy to assess just how much has changed. The Reserve Bank published its first Monetary Policy Statement under new Governor Adrian Orr on May 10 and Finance Minister Grant Robertson unveiled his first full Budget on May 17. 

The jury is in and there has been barely any change in actual monetary and fiscal policy. 

Orr left the Official Cash Rate unchanged at 1.75 percent and extended out the Reserve Bank’s forecast for the first hike until late next year. He said he was neutral on whether he would next hike or cut rates, arguing there were just as many reasons to lift interest rates as reduce them. 
But he also said the currency’s level was about right and that the economy was at or near full employment. Neither comment suggested he was likely to be more of a ‘dove’ than his predecessor Graeme Wheeler. If the Government wanted a Governor prepared to run inflation higher than before and unemployment lower than before, they have not found one. 
In essence, the Reserve Bank under Orr is no different on monetary policy than it was under Graeme Wheeler. He has signaled the Loan to Value Ratio restrictions are also unlikely to change much, saying they are likely to be permanent, albeit possibly at different levels. He said banks needed to be responsible lenders.

There has been little real change on fiscal policy too, despite appearances.

The December ‘mini-budget’ unveiled the coalition Government’s $2 billion families package, but it was actually just a switch for National’s tax cuts, meaning not much of a net change to fiscal stimulus. 

The new Government is delaying its debt reduction track by a couple of years, but the actual fiscal stimulus revealed in Budget 2018 was neither here nor there. The key thing is Robertson is sticking to the same 20 percent target for net debt as the previous Government.

There has been some debate between Labour and the Greens about lifting the target, but that is unlikely until after the 2020 election because Robertson wants to stick to his election policy and avoid scaring the business community with a looser fiscal policy. He fears another ‘winter of discontent’ like that which plagued the first year of the previous Cullen-Clark Labour Government in 2000. This remains a concern for him given wider business confidence remains low. 

Meanwhile, both the Reserve Bank and the Treasury are forecasting economic growth will keep cantering along at over three percent for the foreseeable future with inflation stuck under two percent and no need for rate hikes. The Government has also yet to unveil migration changes. If any, their moves since October have been to loosen settings by allowing in more seasonal workers.

The housing market also continues to be relatively stable and robust, certainly outside of Auckland. The Real Estate Institute’s house price index shows just 0.9 percent inflation in the year to April in Auckland, but inflation is still nearly 7 percent outside of Auckland. Annual inflation in Wellington is almost 9 percent, while it is between 10-20 percent for the likes of Rotorua, Hastings, Napier, Nelson and Queenstown.

The Government’s Kiwibuild plan is still on the starting blocks and migration remains near record highs. House prices remain well supported while interest rates are low, household incomes are still rising solidly, new housing supply remains constrained and the economy is still growing at over 3 percent. 
Everything seemed to change, but nothing much changed at all.
Key things to know:

  • House price inflation was broadly flat in the month of April in the biggest cities. Prices in Auckland and Christchurch were flat from a year ago, but are up 8.7 percent in Wellington, 2.9 percent in Hamilton, 2.1 percent in Tauranga and 11.5 percent in Queenstown.
  • The Reserve Bank has forecast an unchanged Official Cash Rate through the rest of 2018 and into the second half of 2019.
  • Banks have stopped lifting longer term mortgage rates and now also see the OCR on hold until 2019 after weak inflation figures, although their funding costs are up a bit. 
  • The Reserve Bank is unlikely to either change the LVR restrictions or introduce a DTI limit any time soon.
  • Banks are being cautious about lending quality, given noise around the Australian banking royal commission and demands from the Reserve Bank here and the Financial Markets Authority to declare any irresponsible policies around lending and funds management.
  • The new Government is legislating to ban foreign buying of existing homes, is extending the bright line test to five years from two years and will stop negative gearing by landlords. It is not planning a capital gains tax in the first term. 
  • The key variables to watch in late 2018 are global interest rates, Europe’s political and economic dramas, the Chinese economy and Donald Trump’s twitter account, in that order.


By Bernard Hickey