Tony Alexander update August 2020


Back in March, as we approached, then entered lockdown, a lot of people were talking about the return of the Great Depression, years of woe, soaring unemployment, and massive death. Things have so far turned out to be quite different.

The health success so far is well known, with the willingness of Kiwis to sacrifice some individual freedoms for the lives and health of other people allowing early exit from the Alert levels. In other countries, different versions of rights “entitlements” have produced poor adherence to rules, and now fresh outbreaks in a range of countries, most notably Australia in the state of Victoria.

Because Victoria’s outbreak resulted from poor quarantine practices, we cannot rule out a new outbreak in New Zealand given the propensity with which some people seem intent on breaking the rules. But that scenario aside, so far, we are seeing many good economic developments in our country.

Of high importance is the absence of a collapse in our export commodity prices in response to the global recession. The ANZ’s export price index is only 5% down from a year earlier and recently Fonterra upgraded their forecast dairy payout for this year by 50 cents. Of importance here is the fact 30% of our largely primary sector exports go to China and the Chinese economy seems to be recovering reasonably well.

Another thing going “right” from a wealth and confidence preservation point of view, is the housing market. First home buyers have flooded into the market hoping to find listings and attracted by record low interest rates and hopes of banks easing up minimum deposit criteria following removal of LVRs by the Reserve Bank. That pass-through into deposit sizes has yet to happen, and banks are imposing some very tight servicing rules. Thus, many potential home buyers are very frustrated.

But the key point to note here is this. In spite of potentially the greatest difficulties securing a mortgage since 1984, nationwide house prices have only fallen by 0.3% during the June quarter after rising on average by 2% in each of the previous four quarters. One supporting factor here is the rush of investors hoping to find a bargain and looking for better returns than the typical 1.6% available on 6-month term deposits.

Another factor supporting the housing market is low mortgage rates removing pressure on current owners to sell. Listings stocks remain low. Plus, there has been a surge in net immigration into New Zealand over the year to May (clearly largely before the borders were closed in March) amounting to 81,000 people. In fact, adding the high net 68,000 people who entered our country over calendar 2019 to the extra 38,000 net who have entered since, the gain since January 2019 is just over 100,000 and not the 60,000 or so we were expecting.

This adds to housing demand and is likely to be one factor pushing house prices on average higher come 2021. Before then we have the ending of the wage subsidy extended scheme to get through. But it is likely that the extra people to be laid off are well aware of that potentiality and will have already adjusted their spending patterns and levels.

What about worries about higher tax rates? After all, if things do turn for the better won’t the government be thinking about raising taxes to lower debt earlier than would otherwise be the case? No. There is exactly zero pressure on the NZ government to reduce debt coming from investors, banks, and credit rating agencies.

Even at the projected net debt to GDP peak of 54% the NZ ratio will be below pre-Covid ratios for most other OECD economies. More than that, with the Finance Minister recently setting aside the remaining $14bn of the $50bn special Covid-19 fund only for use if another outbreak happens, the debt peak looks set to be lower than 54%.

At some stage any current tax rise worries will pass, and that may be one factor encouraging a lift in business capital expenditure and hiring. In that regard we can see that while businesses are still feeling pessimistic, they are becoming less intent on slashing capex and reducing staff numbers.

Back in April a net 51% of businesses said that they would cut capital spending. The latest survey places that proportion at just 5%. Back then a net 45% said they would reduce headcount. That is now 15%. So, these are still bad results. But the trend is important and this suggests that as we approach the September 1 wage subsidy cut off, many businesses might find themselves incentivised to minimise layoffs to avoid a potential scramble for staff over 2021.

With a myriad of indicators becoming less bad and showing growth for instance in numerous areas of household spending, the already very low chances of the Reserve Bank taking its official cash rate below 0% have virtually vanished. The policy has failed to boost economies and inflation rates pre-Covid offshore, and it is notable that no country which went into this crisis with negative official interest rates has cut them any further.

With regard to money printing, the chances are becoming less that the Reserve Bank will need to strongly raise its target from the current $60bn. This will not just be because of potentially better than expected budget deficit numbers, but a generally less bad outlook for the economy. The need for extra, unusual, stimulus is diminishing.

Anticipation of better times ahead is one reason why sharemarkets around the world have rallied. But before we discount entirely the current lingering weakness around the world, it pays to note that an unusually large surge in retail equity investment, especially by young people, could bespeak of some fragility to current equity market strength.

Additionally, if things all looked great gold would not be trading at a record high price, and US government bond yields would not be remaining at such unusually low levels.

There remains a lot of water to go under the bridge. But the worst-case scenarios, for our economy at least, have been taken off the table. Now, as long as the progress on development of vaccines continues and something is ready for distribution next year – if not even late this year according to some optimists – then positioning more than just one’s equity portfolio for better times ahead might be warranted.

Specifically, that means holding onto good staff if cash flows allow it, reducing reliance on special support measures such as IRD cash financing, looking for cheaper and better located premises, and continuing to search for one’s desired home. After all, with the recent net migration surge, our expectation of a new structural lift in migration when borders one day reopen, continued low interest rates, and declining house building, the balance of housing demand and supply changes is suggestive of new price pressures eventually coming along.


 By Tony Alexander


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