Tony Alexander update Sept 2023
China weakness bears watching
My thoughts about what the optimal interest rate risk strategy is for most home buyers haven’t changed much over the past month even though there are a few fresh items to consider regarding prospects for our growth and inflation.
On the good side for inflation we have in hand data showing that retail spending volumes fell by 1% during the June quarter, or by 1.8% if we focus on core areas of spending. This is a greater decline than expected and suggests that the Reserve Bank could be achieving greater weakness in consumer spending than they might need to get inflation under control.
However, given that the links between changes in household spending and eventual changes in inflation are extremely clouded in this post-pandemic environment we are unlikely to see the Reserve Bank water down their policy warnings anytime soon.
In fact, it is probably less the state of household finances that they are keeping an eye on than those for our exporters hit by the biggest change in recent times – China’s economy.
One-third of our export receipts come from China and virtually all data released regarding the Chinese economy over the past three months have been worse than expected. Businesses are experiencing falling sales as foreign economies cool. Builders are closing down as consumers refrain from buying and a stock of 50-70 million apartments sits unused.
Regional governments are laden with debt and facing falling receipts because of reduced land development. Consumers have 80% of their wealth in housing and prices are falling while many projects sit unfinished because of a lack of fresh finance and lack of cashflow generating new sales.
Already the weakness in China’s economy has led to falls in prices for NZ’s major export commodities and further declines look likely of a magnitude history tells us we cannot reasonably predict. Farmers have seen periods of weak prices many times over the past couple of centuries and they know how to handle reduced incomes – their spending will be slashed.
This will weaken the overall NZ economy. But the biggest impact will be in the regions. This then will be yet another factor helping to justify my long- expressed view that this upturn leg of the housing cycle will be one led by the cities – Auckland, Wellington, and Christchurch.
The greater the weakness in China the greater will be regional economic weakness here. That means the timing of the first cut to the official cash rate will be earlier and potentially the speed of decline faster than the Reserve Bank have indicated.
But these are early days for China’s slowdown and just as there is a risk average people are not even aware of the rural decline and under-estimate it, so too could we be over-emphasising the China slowdown when we consider that the Chinese economy is still expected to grow by over 4% this calendar year.
But to the extent China slows down and monetary policy gets eased through 2024, there is an offset to some degree from another new factor. The government’s accounts are deteriorating rapidly in the face of weakening tax receipts from companies. This means Treasury will need to issue more bonds to finance the deficit and this implies some extra upward pressure on medium to long-term interest rates.
In fact, some of the recent rise in US interest rates which has fed through to higher borrowing costs here can be put down to larger than expected bond issuance now anticipated in the United States.
For borrowers the picture remains very clouded, and we should not ignore the possibility that no signal of inflation comfort is forthcoming from the Reserve Bank until well after the general election. Speaking of which, with the polls suggesting a change in government we can anticipate tax rule changes which should bring investors back into the market as buyers.
But the extent to which investors will return is unclear. Interest rates are at high levels and the numbers do not stack up for many, especially with regard to needing a 35% deposit for making a purchase with a mortgage. But I can tell from my monthly survey of real estate agents that some extra investors are already appearing in the market.
But they are nowhere near as prevalent as first home buyers who are entering the market in greater and greater numbers. Fears of prices falling after making a purchase (FOOP – fear of over-paying) have almost disappeared. FOMO meantime has climbed rapidly, perhaps encouraged by a 15% nationwide fall in the stock of property listed for sale over the past seven months.
In fact, in Wellington stock levels are down by 49% from the peak in August last year while Auckland’s stock is down by 20%. The ability for buyers to pick and choose is easing and once the election is out of the way the spring and summer real estate market could be unusually active – in the cities at least. In the regions some caution is going to be creeping in.
For now, I retail my view that house prices on average will rise about 5% this year, 10% over 2024, and something greater through 2025.
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By Tony Alexander