Download Monetary Policy Statement June 2008 Contents

Monetary Policy Statement
June 20081
This Statement is made pursuant to Section 15 of the Reserve Bank of New Zealand Act 1989.
Contents
1.
Policy assessment
2
2.
Overview and key policy judgements
3
3. The recent economic situation
8
4.
Financial market developments
17
5.
The macroeconomic outlook
22
A.
Summary tables
31
B.
Companies and organisations contacted by RBNZ staff during the projection round
36
C.
Reserve Bank statements on monetary policy
37
D.
The Official Cash Rate chronology
38
E.
Upcoming Reserve Bank Monetary Policy Statements and Official Cash Rate release dates
39
F.
Policy Targets Agreement
40
Appendices
This document is also available on www.rbnz.govt.nz
ISSN 1770-4829
1
Projections finalised on 26 May 2008. Policy assessment finalised on 4 June 2008.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
1
1
Policy assessment
The Official Cash Rate (OCR) remains unchanged at 8.25 percent.
The global economy is currently experiencing significant increases in oil and food prices. These price increases are
occurring at the same time as activity is weakening in many economies in response to the global credit crisis and slowing
housing markets. In New Zealand, this confluence of factors is producing a challenging environment of weak activity and
high inflation.
We project annual CPI inflation to peak at 4.7 percent in the September quarter of this year. Although much of this
reflects higher food and energy prices, underlying inflation pressure also remains persistent. Nevertheless, we do still expect
inflation to return comfortably inside the target band over the medium term. This is based on the expectation that commodity
prices stop rising, inflation expectations remain anchored, and weakening economic activity contributes to an easing in nontradable inflation.
The outlook for economic activity is now weaker than in our previous Statement. We project little GDP growth over 2008,
and only a modest recovery thereafter, largely reflecting a weaker household sector. Government spending and personal tax
cuts will provide some offset to this lower growth but will also add to medium-term inflation pressure.
Consistent with the Policy Targets Agreement, the Bank’s focus will remain on medium-term inflation. Provided the
economy evolves in line with our projection, we are now likely to be in a position to lower the OCR later this year, which is
sooner than previously envisaged.
Alan Bollard
Governor
2
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
2
Overview and key policy judgements
The prices on world markets of a wide range of commodities
capacity pressures – particularly in the labour market – to
have been increasing strongly for the past few years. These
rise to high levels. This, in combination with rising inflation
increases are continuing at a time when many economies
expectations in response to an extended period of relatively
are now grappling with the effects of the international
high headline inflation, has contributed to annual non-
credit crisis and, in some cases, significant housing market
tradable inflation running above 4 percent for most of the
corrections. This combination of events means that these
past four years.
Although we expect all of these factors to keep headline
economies now face the uncomfortable combination of
inflation high for the next 12 months, we are projecting
rising headline inflation and weak economic growth.
Reflecting these ongoing international commodity price
annual inflation to come off more sharply over the medium
increases, the near-term inflation outlook in New Zealand
term. This largely reflects a lower projection for non-tradable
has deteriorated considerably since the time of the March
inflation, itself due mainly to a significantly weaker outlook
Statement, such that annual CPI inflation is now projected
for economic activity. Excluding the first-round price effects
to peak at 4.7 percent in the third quarter of this year (figure
of the emissions trading scheme, annual CPI inflation is
2.1). The main reason for the upward revision relative to
projected to reach 2.3 percent by late 2010.
March is that oil prices have increased by more than 30
We are now projecting little GDP growth over 2008,
percent over that time to new all-time highs. In real terms,
and only a gradual recovery thereafter (figure 2.2). A
oil prices are now above the levels experienced in the 1970s.
weaker household sector outlook is the main reason for
Furthermore, the inflation that occurred in dairy prices
the downward revision to the growth projection. Current
in late 2007 now appears to be occurring in other food
indicators suggest that the housing market is undergoing a
groups, such as breads and cereals. Figure 2.1 shows the
significant downward correction, with sales volumes down
effect of food and energy on the headline CPI projection.
significantly and prices starting to fall in many areas. The
The first-round price effects of the emissions trading scheme
resulting negative wealth effects are compounding other
maintain the wedge between energy and other consumer
headwinds facing the household sector. The combination
price inflation from early 2010.
of rising effective mortgage rates, and the oil and food
These significant external cost shocks are occurring at a
price increases discussed above, is reducing the amount
time when underlying inflation pressures are already quite
of disposable income households have for discretionary
intense. Many years of strong economic growth have caused
spending. Finally, the labour market, while currently still
tight, is showing signs of cooling, prompting us to revise
Figure 2.1
CPI inflation, headline and ex-food and energy
Figure 2.2
(annual)
Gross domestic product
%
5
%
5
Current CPI
4
3
March
CPI
%
6
Target range
3
Projection
2
CPI ex-food
and energy
1
4
0
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
Note: Energy includes household energy, petrol, and other
vehicle fuels and lubricants.
March
projection
3
5
4
3
2
1
0
%
6
5
2
1
4
(annual average percent change)
2
Central projection
1
0
0
-1
-1
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
3
Box A
Figure A1
Recent monetary policy decisions
Official Cash Rate
The OCR has remained unchanged at 8.25 percent for
nearly a year, after having increased steadily over the three
%
9
%
9
8
8
7
7
6
6
5
5
years to July last year (figure A1). The extent of slowing
in the domestic economy that has occurred over the past
six months suggests that the Bank was correct in holding
the OCR constant and assessing the effects of the earlier
interest rate increases. This is particularly so given the
widening in margins that has occurred between the OCR
4
and market interest rates. Conversely, the fact that wage
Source: RBNZ.
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
4
and consumer price inflation and inflation expectations
Taking a longer-term perspective, higher interest rates
have continued to trend up suggests that lowering the
earlier in this cycle might have resulted in lower underlying
OCR over recent months in response to the deteriorating
inflation pressures currently, thus enabling some additional
activity outlook would have unduly risked the medium-
flexibility in response to the cost shocks currently facing
term inflation objective. However, given the considerable
the economy. However, in keeping with clause 4b of the
uncertainties surrounding the outlook for activity and
Policy Targets Agreement, substantial consideration was
inflation, particularly those related to credit conditions, it is
given to the potential implications of higher interest rates
too soon to fully evaluate OCR settings over the past year.
for the already excessively high exchange rate.
down our projections for labour income growth. All of this
elsewhere in the economy. However, compared to what was
means that real household spending – the main driver of
already assumed in the March Statement, the additional
economic growth over the past few years – is now projected
fiscal stimulus announced in Budget 2008 was relatively
to contract over the next couple of years. This is despite
small in the context of the other factors currently affecting
the significant stimulus coming from recently announced
the economy.
personal tax cuts and increased government transfers.
To ensure future inflation outcomes consistent with the
Business investment activity is also projected to contract
inflation target, we need to weigh all of these countervailing
over the next couple of years, reflecting tighter credit
factors carefully in setting interest rates. While acknowledging
conditions, a falling exchange rate pushing up the price of
the considerable uncertainties, we believe that the medium-
imported investment goods, and declining domestic demand
term disinflationary effects of the weaker growth outlook are
constraining profitability. Below trend trading-partner
sufficient to more than offset the effect that the near-term
growth is also expected to weigh on activity in New Zealand.
spike in headline inflation will have on inflation expectations.
Providing some support to this otherwise weak GDP outlook,
Therefore, the updated 90-day interest rate projection is
net exports are expected to start to recover in response to a
somewhat lower than was assumed in March (figure 2.3).
depreciating exchange rate and weaker domestic demand.
Also contributing support to economic activity throughout
The personal tax cuts, government transfers, and the
the projection is an assumption that the exchange rate
projection for continued growth in government spending
will depreciate faster than assumed in March. One of the
outlined in Budget 2008 also partially offset some of the
reasons we are not projecting even more easing in monetary
disinflationary pressure emanating from weaker activity
conditions is because the experience of the 1970s warns us
4
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
of the danger associated with easing monetary conditions
price signals and disadvantaging low or fixed-income
too rapidly in the face of sharp oil price increases.
households.
As always, projecting medium-term inflation involves
Figure 2.3
considerable uncertainty, and comes down to three key
90-day interest rate
factors: 1) the future paths for key variables such as oil and
%
11
Projection
10
%
11
10
March
projection
9
9
8
Central projection
7
8
the exchange rate; 2) the extent to which capacity pressures
in the domestic economy ease; and 3) the extent to which
inflation expectations remain consistent with the inflation
target.
The central projection assumes that these cost shocks are
7
6
6
temporary, and in fact assumes that oil prices have peaked
5
5
and will soon start trending gradually lower. However, as has
4
4
happened continuously over the past four years, oil prices
3
and other international commodity prices could continue to
3
1995 1997 1999 2001 2003 2005 2007 2009
Source: RBNZ.
move higher, adding further to headline inflation. While we
assume that oil prices soon start to decline, one factor that
is projected to have a temporary medium-term inflationary
Monetary policy judgements
effect is the emissions trading scheme over 2010 and
One of the key messages to take from the above overview is
2011. As discussed in the March Statement, considerable
that many of the same factors that have contributed to the
uncertainty surrounds this scheme and its effects on the
very high near-term inflation forecast – sharply higher oil and
economy. The Bank will not try to offset the first-round
food prices – have also contributed to the large downward
effects of this scheme with higher interest rates, but will
revision to the growth outlook. These cost shocks and their
focus on the potential effects of the scheme on activity and
adverse consequences are very challenging for the Reserve
inflation expectations.
Bank and for many other central banks around the world
In terms of capacity pressures in the domestic economy,
that are currently grappling with the same low growth/
we are confident that these are going to ease considerably
rising inflation scenario. As box B on page 7 discusses, the
over the next couple of years, largely reflecting the
Bank’s Policy Targets Agreement (replicated in Appendix F
slowdown in the household sector. In fact, we see the risk is
of this Statement) provides some guidance. Provided the
that activity slows more sharply than assumed in the central
Bank is confident that inflation will return to within the 1
projection. Most of this risk is associated with the potential
to 3 percent band on average over the medium term, the
that a sharper contraction in the housing market would place
Bank can ‘look through’ the first-round price effects of these
further pressure on the household sector. If international
shocks.
food and oil prices were to increase further, this would
In these instances, a key to ensuring that medium-
place additional pressure on households’ purchasing power.
term inflation remains anchored at low levels is that wage
Having said that, depending on the composition of any
and price setters do not alter their pricing behaviours in
further commodity price strength, New Zealand commodity
response to these near-term cost shocks. However, if firms
exporters might also experience stronger revenues than
and workers start negotiating prices and wages on the
assumed in our projection.
expectation that inflation at or above 3 percent is the norm,
Moving away from the household sector, considerable
then the Bank would have to respond with higher interest
uncertainty remains around the outlook for our key trading
rates than assumed here. Leaving such behaviour unchecked
partners. While the outlooks for the United States, United
indefinitely would encourage many of the inefficiencies that
Kingdom and the eurozone remain very weak, the Australian
persistently high inflation brings with it, such as distorting
and Asian (excluding Japan) economies are performing
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
5
well. A significant medium-term risk to the international
This brings us to inflation expectations. Surveyed
activity outlook is that global inflation pressure continues
medium-term inflation expectations have been trending
to build, eventually prompting authorities to adopt more
gradually higher over the past few years, likely in response
contractionary policies.
to a period of relatively high actual inflation, itself partly
Another important source of uncertainty is the future
attributable to an extended period of rising international
trajectory of the exchange rate. We have already seen the
commodity
New Zealand dollar start depreciating in response to the
expectations has also kept real interest rates – the interest
weakening outlook for domestic activity, and we have
rates most relevant for activity – lower than they would
assumed that this will continue at a steady rate throughout
otherwise have been. Our projections assume that inflation
the projection. However, there is a significant possibility
expectations have nearly peaked, and will not move much
that the exchange rate falls faster and further than we have
higher in response to the temporary near-term spike in
assumed. A sharper depreciation would assist in the long-
annual headline inflation that we are projecting. Provided
awaited rebalancing of growth away from the household
incoming information on wages and prices supports this
sector to the external sector, but it would also keep tradable
judgement, we will be increasingly likely to carry out the
inflation more elevated. However, the extent to which firms
interest rate reductions outlined in our projections. However,
are able to pass on the increased costs associated with higher
if households and firms start negotiating wages and prices
New Zealand dollar import prices is likely to be severely
in a way that suggests they believe inflation is going to be
constrained by the very weak household sector.
higher in the medium term, then the Bank will have to hold
Although we see the risks to activity over the next
prices.
This
upward
trend
in
inflation
interest rates higher for longer than assumed.
year or so as being to the downside, we feel the risks to
Taking these medium-term inflation drivers together,
capacity pressure are more balanced. This is because, in
we feel we are currently well positioned with interest rates
previous downturns, the economy’s potential growth rate
well above neutral. Indeed, with medium-term inflation
has tended to fall. In the current environment, we see the
pressures having eased considerably relative to the March
greatest downside risks to our potential output projection
Statement, we are now projecting lower 90-day interest
coming from tighter credit conditions and high energy costs
rates throughout the projection period. However, interest
discouraging business investment. If these factors were to
rates are likely to remain well above neutral for some time
hamper potential output growth, then inflation pressures
until we are more confident that medium-term inflation
would be more intense for a given level of activity.
pressures are easing.
6
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Box B
rates have been necessary to contain inflation pressure
The Policy Targets Agreement, and
driven by factors such as house price inflation and rising
maintaining price stability in trying
dairy export commodity prices, which have also been
positive drivers of output. Thus, increasing interest rates
times
was consistent with both maintaining price stability and
The Policy Targets Agreement (PTA) between the Governor
avoiding unnecessary instability in output.
and the Minister of Finance guides the conduct of monetary
In contrast, oil price increases have pushed up
policy. The PTA sets out a medium-term target for future
inflation and depressed output by affecting profitability
inflation and also discusses how the Bank should think
and disposable incomes (see box D, chapter 5 for further
about treating shocks that result in CPI inflation moving
discussion of the macroeconomic effects of rising oil
outside the target range. It is at times like the present, faced
prices). As a result, tighter monetary conditions might be
with significant cost shocks, that the PTA is particularly
needed in response to any rise in inflation expectations
valuable. By specifying an agreed medium-term inflation
coming from the higher oil price, but looser monetary
target, which firms and households can count on being
conditions might be needed in response to the adverse
achieved in the medium term, it also provides the scope for
effects of the price increases on incomes and output.
us to accommodate temporary deviations from the target
Adding to the monetary policy challenge is whether
– even quite large ones at times. Without the medium-
the increase in oil prices over several years can truly be
term target, firms and households would have little basis
considered temporary.
for knowing where future inflation would settle.
We have set out the Bank’s approach to relative price
Under the PTA, the Reserve Bank pursues a target of
shifts in earlier Statements. We will generally look through
future CPI inflation outcomes between 1 and 3 percent on
the first-round effects of relative price movements on CPI
average over the medium term. In pursuing this target, we
inflation (such as the effects of the oil price rise on domestic
seek to avoid unnecessary instability in output, interest rates
petrol prices). This is the case even if these movements are
and the exchange rate. The PTA also explicitly notes that
persistent and evolve over a number of years. However, we
there is a range of events, whose impact on the inflation
will respond to any impact of relative price movements on
rate would normally be temporary, that could cause actual
inflation expectations and demand pressure. This follows
CPI inflation to deviate from medium-term trend inflation.
the general principle that monetary policy cannot prevent
The implicit directive of the PTA is to ‘look through’ such
relative price movements in the economy – because these
events and focus on medium-term trend inflation, or what
are real phenomena – but monetary policy should focus
is sometimes called core inflation. The implication of the
on the underlying rate of inflation.
PTA is that when inflation is outside the target range it
We will adhere to the medium-term inflation target,
is important to have a credible plan to return to target
because to allow inflation expectations to rise substantially
over a long-enough horizon such that the economy does
would require a painful economic adjustment later to
not suffer from unnecessary instability. We operationalise
restore price stability. In the current circumstances, it
these guidelines by aiming to have projected inflation
will be especially important to conduct policy so that
comfortably within the target range over the latter half of
underlying inflation continues to trend down in line with
our three-year projection period.
the inflation target, but that any unnecessary weakness in
For most of the past five years, both inflation and
output and incomes is avoided.
output stability considerations have pointed in the same
direction for the setting of interest rates. Rising interest
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
7
3
The recent economic situation
New Zealand has experienced a decade-long period
Figure 3.1 of largely uninterrupted economic expansion. This has
Trading partner growth and CPI inflation
been sustained by a period of strong domestic demand,
(annual)
which was underpinned by the buoyant housing market
%
6
and robust labour market conditions. Since the March
%
6
GDP
Statement, however, further evidence of the economy being
5
5
at a turning point has emerged. Most notably, demand from
4
4
3
3
2
2
the household sector is abating, with a significant housing
market correction under way. Survey measures of consumer
and business confidence have fallen appreciably and labour
market conditions have eased. The weakening in demand
conditions in the New Zealand economy has occurred in an
environment of rising international prices for oil, food and
other imported goods. This has culminated in rising rates
of consumer price inflation in our trading partners, and has
1
0
1
CPI
1995
1997
1999
2001
2003
2005
2007
0
Source: Consensus Economics Inc, RBNZ estimates.
Note: GDP is an export-weighted average of GDP growth in New
Zealand’s 12 major trading partners. CPI is an importweighted average of CPI inflation in those countries.
pushed up tradable inflation in New Zealand. Coming on
top of persistent domestic inflation pressures, annual CPI
inflation is now above 3 percent.
The deceleration in US economic growth has continued
into early 2008. March quarter US GDP figures revealed
a sharp slowing in consumption growth and a decline in
Global developments
residential and business investment. More recent measures of
Since the March Statement, there has been further evidence
consumer sentiment and business indicators have continued
that a moderation in trading partner growth is under way.
to decline. House sale prices continue to fall and labour
There are signs that recent financial market volatility and
market indicators have softened. While domestic demand
tightening credit conditions are starting to have some
has been weak, overall activity has been underpinned by
impact beyond already weak housing market activity. US
positive net trade. Various measures of US consumer price
and eurozone authorities have reported tighter corporate
inflation remain elevated, with survey measures of inflation
and housing lending standards since early 2008, with rising
expectations increasing.
lending margins also evident in Australia and the United
The Australian economy has benefited from a rising
terms of trade. Growth decelerated slightly at the end of
Kingdom.
Despite the weaker picture for global economic
2007, but remained close to 4 percent in annual terms.
activity, CPI inflation has risen in most trading partners,
Since the start of 2008, there has been further evidence of
partly reflecting higher energy and food prices (figure
moderating consumer spending, as borrowing costs have
3.1). Measures of core inflation and surveyed measures of
increased. Growth in retail sales volumes and household
inflation expectations in most economies have also been
credit have continued to moderate, and indicators of
trending up.
building activity have been subdued. Measures of business
A number of central banks (including the Reserve Bank
conditions and confidence have also softened. Nevertheless,
of Australia, European Central Bank, the Bank of England
pressures on capacity continue to be evident, with elevated
and the US Federal Reserve) have expressed increasing
survey readings of capacity utilisation and the historically
concerns about inflation risks. Since the March Statement,
low unemployment rate. Annual CPI inflation in Australia
authorities have tightened monetary policy in China and
has risen above 4 percent, with underlying CPI measures
Singapore.
increasing at a similar pace.
8
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Activity in Asia (excluding Japan) has generally remained
Figure 3.2
firm. Strong demand for exports to other emerging
Nominal commodity prices
economies has offset weaker demand from the United
(index =100)
States. Domestic demand in the region has also generally
Index
240
Index
240
remained robust, although momentum has eased in some
countries (notably South Korea). Labour markets in the
region are firm, real interest rates are low, and there is scope
World commodity
price index
200
160
200
160
for more expansionary fiscal policy settings. In response to
concerns about overheating, authorities in a number of
countries have been tightening monetary policy. The climb
120
120
80
World commodity
price index (ex-dairy)
in CPI inflation has been particularly evident, partly because
of higher food prices.
Japanese growth rebounded in the final quarter of
NZ dollar commodity
price index
40
1995 1997 1999 2001 2003 2005 2007
Source: ANZ National Bank Group Ltd, RBNZ estimates.
80
40
2007. However, indicators for 2008, such as the Tankan
However, dry conditions since then have reduced dairy
survey of business confidence, suggest weakening demand
production and export volumes. Meat exports have also been
in the near term.
affected by the dry conditions, with evidence of increased
In the eurozone, quarterly output growth ticked up in
early slaughtering. With recent rainfall, the outlook is more
the March 2008 quarter, although momentum has generally
positive for agricultural production next season, although
eased over the past few quarters. Growth is expected to
much depends on weather conditions over the coming
moderate given the slower US economy and high euro. There
months. A substantial rebound in the near term seems
have also been recent declines in measures of consumer and
unlikely, however, as farmers concentrate on improving herd
business confidence. In the United Kingdom, GDP readings
condition. By contrast, exports of other primary products
for the March 2008 quarter confirmed a slowing in growth.
have remained robust, partly due to high production from
Falling house prices and business surveys point to a further
the Tui oil field.
easing in growth. Current readings of annual CPI inflation in
Export volumes of manufactured goods have flattened
the United Kingdom and eurozone have risen to, or slightly
off in recent years (figure 3.3). Solid demand has been offset
above, 3 percent.
by the negative impact of the high New Zealand dollar and
relocation of some firms to lower-cost overseas destinations.
Tradable sector prices and activity
After sizeable increases last year, world commodity prices for
New Zealand’s exports have flattened off in recent months.
The key driver of this price moderation has been the easing
in international dairy prices, with the aggregate dairy index
falling by about 10 percent from its peak in November.
Offsetting the fall in spot dairy prices have been increasing
prices for other food exports (figure 3.2). For example, world
meat prices have been on a strong upward trend since the
start of last year. The high level of the New Zealand dollar
against the US dollar, Japanese yen and British pound has
continued to constrain New Zealand dollar export receipts.
Agricultural export volumes grew very strongly towards
the end of 2007, due to a sharp surge in dairy exports.
Prospects for early 2008 remain soft, given slowing overseas
Figure 3.3
Export volumes
(seasonally adjusted)
95/96 $billion
6.0
95/96 $billion
3.0
5.4
2.5
Manufactured
exports (RHS)
4.8
Primary exports
4.2
2.0
3.6
3.0
Exports of services
(RHS)
1995
1997
1999
2001
2003
2005
2007
1.5
Source: Statistics New Zealand, RBNZ estimates.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
9
markets and voluntary electricity rationing in response to low
growth remained robust and broad-based over 2007,
lake levels and high spot electricity prices. Exports of services
with the import penetration ratio reaching historic highs.
continue to be pressured by the high New Zealand dollar,
However, consistent with emerging evidence of a slowdown
which has weighed on visitor arrivals and tourist spending
in domestic demand in 2008, imports of consumer goods
in New Zealand.
and capital equipment have recently declined.
The on-going strength in global commodity prices has
A strong pick-up in domestic demand in early 2007
put world import prices on an upward trend. Oil prices have
contributed to the deterioration of the trade balance.
posted record highs and currently sit more than 30 percent
Since then, an improving investment income balance has
higher than at the time of the March Statement. Global
contributed to a gradual narrowing of the current account
prices for other imported goods (notably food and other
deficit to about 8 percent of GDP by the end of 2007 (figure
commodities) have also registered strong increases (figure
3.6).
3.4). Prices for metals remain at historically high levels.
Figure 3.6
Figure 3.4
Current account balance, goods and services
Commodity price indices and oil prices (Dubai)
balances
((US$), monthly)
Index
120
USD per barrel
120
Oil (RHS)
100
100
80
80
60
60
Metals
Food
40
(annual)
%of GDP
6
%of GDP
6
4
4
Goods balance
2
2
0
0
-2
-2
Services balance
40
-4
-4
20
20
-6
-6
0
0
1995 1997 1999 2001 2003 2005 2007
Source: The Economist, Datastream.
Note: Commodity price indices scaled to equal 20 in January
2000. May oil prices incorporate data till 28 May.
Over recent years, the high New Zealand dollar,
limited spare capacity, and strong domestic demand have
underpinned growth in import volumes (figure 3.5). Import
Current account balance
-8
-10
1995 1997 1999 2001
Source: Statistics New Zealand.
2003
-8
2005
2007
-10
Domestic demand
Since the March Statement there has been further
confirmation that a turning point in domestic demand has
Figure 3.5
been reached.
Import volumes
In recent years, residential investment has been
(seasonally adjusted)
95/96 $million
14000
%
20
Level
15
12000
10000
2003
2005
2007
decline in house sales a few months earlier (figure 3.7). A
number of factors have acted to slow housing demand,
0
including slowing net immigration, rising borrowing costs
-5
Annual growth
(RHS)
10
borrowing costs. The pace of residential investment slowed
5
8000
1995 1997 1999 2001
Source: Statistics New Zealand.
growth, tight labour market conditions, and relatively low
at the end of 2007, which had been foreshadowed by the
10
6000
underpinned by rising house prices, strong population
and lower expectations for house prices.
-10
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Figure 3.7
Figure 3.8
Real residential investment and house sales
Median house prices
(seasonally adjusted)
(seasonally adjusted monthly percent change,
%of GDP
6.5
6.0
per thousand working aged persons
3.7
Residential
investment
3.2
5.5
2.7
5.0
2.2
4.5
4.0
2002
2004
2006
%
1.5
%
1.5
1.0
1.0
0.5
0.5
0.0
0.0
-0.5
-0.5
1.7
REINZ house sales
(adv 6 months, RHS)
2000
six-month moving average)
2008
1.2
Source: Statistics New Zealand, REINZ, RBNZ estimates.
-1.0
JUL
2006
OCT
JAN
2007
APR
JUL
OCT
JAN
2008
APR
-1.0
Source: REINZ, RBNZ estimates.
The downward trend in house sales has continued. By
April 2008, REINZ house sales had declined nearly 50 percent
Up until the March quarter, measures of consumer
compared to year-earlier levels. Adjusting for growth in the
sentiment had held up at reasonably high levels (figure
working age population, the level of house sales was the
3.9). It seems likely that, despite a slowing housing market,
lowest since the series began in 1990. As yet, dwelling
households had been cheered by buoyant labour incomes
consent issuance has remained firmer than suggested by
in recent years. With signs that the labour market is now
house sales volumes, but we expect further significant
turning, and consumer purchasing power is being squeezed
easing in the coming months. Survey measures also point to
by high borrowing costs and rising food and fuel costs,
further weakening in residential investment activity.
measures of consumer sentiment have fallen sharply, and sit
The median number of days it takes to sell a house is also
well below 2006 levels.
considerably above year-earlier levels. Although the climb in
Figure 3.9
days to sell has stalled in recent months, hovering around
Real retail sales growth and consumer
45 days on a seasonally adjusted basis, further increases are
confidence
likely given the sharp deceleration in house sales and reports
of climbing stocks of unsold dwellings. Continued declines
in the REINZ median house sales price have been evident
Annual %
10
Westpac consumer
confidence
(adv 1 quarter, RHS)
8
(figure 3.8). In April, the median house sales price was lower
6
than 12 months earlier, the first month of negative annual
4
house price inflation since 1998.
2
Slowing housing market conditions have coincided
with an easing in retail sales volumes. In the March quarter,
retail sales volumes fell 1.3 percent below year-earlier levels.
Weakness was particularly apparent in the automotive sector,
with falling hardware and appliance sales also noticeable.
0
-2
Real retail sales
Index
140
130
120
110
Roy Morgan
consumer confidence
(adv 2 months, RHS)
100
90
-4
80
1998
2000
2002
2004
2006
2008
Source: Statistics New Zealand, Westpac McDermott Miller, Roy
Morgan.
While the early timing of Easter might have overstated the
decline in retail trade figures, evidence of a slowdown is
genuine.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
11
Business investment growth remained buoyant during
2007. The tight labour market had contributed to pressures
on capacity, and higher investment was underpinned by
healthy corporate profitability and the high exchange rate.
Recent growth in business investment has been fairly broad
based across sectors, including continued strength in plant
and machinery investment, non-residential construction
and transport equipment. Intangible asset investment also
Productive capacity and the labour
market
In spite of recent evidence pointing to a sizeable deceleration
in growth, the duration of the current expansion has left the
economy with little spare capacity (figure 3.11). The QSBO
measure of economy-wide capacity utilisation increased in
the March quarter 2008 and sits at historically high levels.
increased very strongly over recent quarters, owing in part to
Figure 3.11
the increase in oil exploration occurring in New Zealand.
Capacity measures and annual average GDP
Indicators for early 2008 suggest continued momentum
growth
in business investment, including high levels of non-
(seasonally adjusted)
residential building consents and capital equipment imports.
Normalised
2
However, business confidence has eased appreciably since
Skill shortages
%
8
1
6
and tax credits on R&D taking effect from April. Declining
0
4
survey measures of profitability (partly as a consequence
-1
the start of the year. This is despite lower corporate tax rates
of rising costs) and falling investment intentions suggest
2
GDP (RHS)
-2
0
some weakness in investment growth later this year (figure
3.10). While fairly broad based across sectors, the fall in
business confidence has been particularly noticeable in the
construction sector. For the business sector as a whole, there
-3
-2
Capacity utilisation
-4
1990 1992 1994 1996 1998 2000 2002 2004 2006
Source: Statistics New Zealand, NZIER, RBNZ estimates.
-4
is the risk that the sharp deterioration in business sentiment
However, as indicated by the easing in QSBO skill
and tightening credit conditions might have a more
shortages, there is some evidence that labour market
immediate impact on business investment than suggested
conditions are loosening. Of some note, the quarterly
by historical relationships.
percentage fall in employment recorded in the March
Household Labour Force Survey was the largest since the
Figure 3.10
survey began, with employment below year-earlier levels
Real market business investment and profitability
for the first time since 1998. Although a seesaw pattern
(seasonally adjusted)
has been evident in recent quarterly employment readings,
Annual %
30
20
Index
40
is beginning to affect employment, with sizeable falls in
Business investment
20
10
0
As employment has dropped, the labour market
participation rate has eased and the unemployment rate has
-10
-20
-30
retail sector and housing-related employment in the March
quarter.
0
-20
there are signs that weakening household sector demand
Profitability
(adv 4 quarters, RHS)
ticked up, although both remain at levels suggesting tight
labour market conditions (figure 3.12). These conditions
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008
Source: Statistics New Zealand, NZIER, RBNZ estimates.
-40
have been exacerbated by lower levels of net immigration
among working age people, with departures to Australia at
high levels.
12
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Figure 3.12
current rates of CPI inflation and developments in production
Unemployment and labour force participation
costs. QSBO survey measures show a rising portion of firms
%of labour force
8
Unemployment
intending to increase selling prices, and proportionately
%of working age population
69
more firms reporting higher input costs.
Labour force
participation (RHS)
7
68
6
67
5
66
4
65
Figure 3.14
Longer-term inflation expectations
(annual)
%
3.0
%
3.0
2.6
3
1995
1997
1999
2001
2003
2005
2007
Source: Statistics New Zealand.
Tight labour market conditions have contributed to
sizeable growth in household incomes. Despite moderating
2.6
RBNZ 2-year-ahead survey
64
2.2
2.2
1.8
1.8
AON 4-year-ahead survey
1.4
1.4
employment growth, strong increases in wages have
underpinned weekly earnings. Quarterly growth in the
1.0
labour cost index (which attempts to exclude wage changes
Source: Statistics New Zealand, RBNZ, Alexander Consulting.
1995
1997
1999
2001
2003
2005
2007
1.0
attributed to productivity) eased slightly in March, following
the strong December quarter increase. Nevertheless, annual
In the absence of a specifically designed survey it is
LCI wage inflation has accelerated in recent quarters – to 3.5
difficult to know what is happening to households’ medium-
percent in March, the highest on record (figure 3.13).
term expectations of inflation. As a result, we are unsure
of the extent to which well-publicised price increases for
regularly purchased items, including food and fuel, affect
Figure 3.13
wage and price expectations. Nevertheless, evidence of
Labour costs and wages – private sector
rising inflation expectations present some upside risk to
(annual percent change)
%
3.5
%
9
QES total weekly
gross earnings (RHS)
8
3.0
7
6
2.5
5
2.0
LCI wage index
1.5
1.0
1995
1997
1999
2001
Source: Statistics New Zealand.
2003
2005
2007
future inflation.
Inflation
Underlying inflation pressures remain persistent, underpinned
by tight resource pressures and rising inflation expectations.
4
Firms continue to face a high cost environment, with rising
3
labour, energy and rental costs. In addition to domestically-
2
generated inflationary pressures, sizeable increases have
1
been observed in imported input costs, particularly oil
and imported raw materials. Accordingly, measures of
producer price inflation (both inputs and outputs) have risen
Inflation expectations
Business survey measures of inflation expectations have
continued to trend up and now sit just below 3 percent (figure
3.14, table 3.1). These might reflect expectations of`future
sharply over the past 12 months. In the face of rising costs,
considerable pressure has been placed on margins, and
pricing intentions have remained elevated. Other inflation
measures have also ticked up recently (figure 3.15).
demand conditions, but are also likely to be influenced by
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
(continued on p15)
13
Box C
increased demand for protein, which has indirectly
Recent food price developments
translated into higher cereal prices through higher
feed demand.
Food prices have increased markedly over the past year,
straining household budgets and contributing to recent
high CPI inflation. Underpinning these gains have been
substantial increases in global food commodity prices.
International dairy prices more than doubled between
late 2006 and the middle of 2007. Unsurprisingly, retail
dairy product prices in New Zealand increased sharply in
2007. More recently, while international dairy prices have
partially retraced from their peak, other food commodity
prices – particularly prices of cereals – have increased
substantially (figure C1).
A fall in supply in the face of rising demand has led
to reduced cereal stock levels. As a result, there is a much
smaller buffer to absorb supply or demand shocks, thus
leading to greater volatility in prices. Exacerbating these
price increases recently have been export restrictions
introduced in several major rice exporting nations. In
addition, tight credit conditions have possibly reduced the
ability of speculators to trade against rising prices.
These developments drove a surge in global wheat
prices in late 2007. The latest food price data show signs
these increases in global markets are beginning to have
Figure C1
some impact on domestic bread and cereal prices at the
Wholesale cereal spot prices
retail level (figure C2). Given the extent to which global
(inflation adjusted, SDR)
Index
160
Index
160
prices have risen, further increases in this category are
expected. Meanwhile, other food commodity prices,
140
including maize, sugar and coffee, have also increased
120
120
since the start of the year. These developments are also
100
100
expected to translate to higher domestic food prices over
80
the coming year. As a result, domestic food price inflation
140
Rice
Wheat
80
60
60
40
40
20
Maize
2000
2002
2004
2006
20
Source: International Monetary Fund.
is expected to hold near its current annual rate of about 6
percent over the coming year. Further increases in global
commodity food prices would pose upside risks to our
expectation for domestic food price inflation.
Figure C2
Many explanations have been offered for these
Food price components of the CPI
increases in cereal prices. These include:
(annual percent change)
• Supply disruptions: a severe drought in Australia
%
30
%
30
caused cereal production there to decline markedly in
the 2006/07 season.
Milk, cheese
and eggs
20
20
• Reduced productivity growth: gains in cropping yields
internationally have been small over the past decade,
10
10
Bread and cereals
following rapid growth in the 1970-80 period.
• Increased bio-fuel production: substitution away from
0
0
food production toward bio-fuel related crops has
-10
further constrained food supply.
• Increased developing-world protein demand: the
2000
2002
2004
2006
-10
Source: Statistics New Zealand.
wealth gains in developing Asia have resulted in
14
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
In many ways, the economic effects of this food price
inflation are similar to that of oil (see box D), in that they
both lead to higher prices and weaker activity. However,
the effect on domestic activity from higher food prices is
likely to be less than that of oil because some domestic
food producers will benefit from the higher prices. While
the Reserve Bank will not try to offset the first-round
effects of higher food prices, interest rates will have to
be higher than otherwise should higher food prices spill
over to generalised inflation through higher wages and
Figure 3.16
CPI, tradable and non-tradable inflation
(annual)
%
6
%
6
Non-tradable
4
4
CPI
2
2
0
0
-2
-2
Tradable
inflation expectations.
-4
1995
1997
1999
2001
Source: Statistics New Zealand.
Figure 3.15
2003
2005
2007
-4
strength in underlying inflation pressures, measures of core
Other measures of inflation
inflation, such as the trimmed mean and weighted median,
(annual)
are above 3 percent, and wage inflation remains high.
%
12
%
12
Producer prices (inputs)
Evidence of the slowing housing market on non-tradable
inflation is mixed. Weaker activity has translated into more
8
8
moderate rates of construction cost inflation and lower real
estate agent fees. However, pressures on dwelling rents have
4
GDP deflator
4
not abated, with the quarterly increase in dwelling rents in
the March 2008 quarter being the strongest since 2004.
0
0
Retail trade deflator
-4
1995
1997
1999
2001
2003
2005
2007
-4
Source: Statistics New Zealand.
Current rates of annual non-housing related inflation in the
non-tradable regimen remain high after accounting for the
impact of subsidies.
Annual CPI inflation rose to 3.4 percent in the March
quarter, from 3.2 percent in the previous quarter (figure
3.16). The climb in inflation largely reflects rising annual
tradable inflation, which increased to 3.5 percent in March,
from 2.8 percent in the December quarter. Rising tradable
inflation is partly a consequence of the weaker New Zealand
dollar. Of greater impact have been sizeable increases in
world prices for tradable goods, most notably fuels and food
(see box C for a discussion on food prices). Further increases
in oil and retail petrol prices since the March quarter and
continued increases in food prices suggest that tradable
inflation will move higher in the next few quarters.
While tradable inflation accelerated in March, annual
non-tradable inflation eased slightly. However, excluding the
effects of changes to government subsidies in late 2007,
non-tradable inflation remains elevated. Also reflecting the
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
15
16
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
2.3
2.4
3.4
AON Economist survey – inflation four-years-ahead
NBBO – inflation one-year-ahead (quarterly average)
1
Average for month of April and May.
3.3
3.0
2.7
2.7
3.5
2.9
3.2
Inflation expectation measures
RBNZ Survey of Expectations – inflation one-year-ahead
RBNZ Survey of Expectations – inflation two-years-ahead
AON Economist survey – inflation one-year-ahead
Dec
2.7
2.6
2.6
2.5
2.7
2.8
3.8
4.2
3.7
1.2
1.3
2.6
Dec
2.9
3.0
2.9
2.7
2.9
2.9
2006
Sep
Other inflation measures
Factor model estimate of core CPI inflation
CPI trimmed mean (of annual price change)
CPI weighted median (of annual price change)
CPI ex food, petrol and government charges
CPI ex food and energy
GDP deflator (derived from expenditure data)
4.0
4.5
3.9
3.0
15.9
CPI components
CPI non-tradables
Non-tradables housing components
Non-tradables ex housing, cigarettes and tobacco components
CPI tradables
Petrol
2006
Sep
3.5
CPI
(annual)
Measures of inflation and inflation expectations
Table 3.1
3.1
2.4
2.7
2.6
2.4
2.7
2.4
2.9
2.7
2.8
2.9
2007
Mar
4.1
4.7
3.8
0.9
-2.8
2.5
2007
Mar
3.2
2.5
2.7
2.6
2.7
Jun
2.6
2.0
2.4
2.1
2.1
4.0
4.1
4.7
3.9
-0.5
-8.4
2.0
Jun
3.2
2.5
2.7
2.6
2.5
Sep
2.4
2.3
2.7
1.9
1.8
3.7
3.7
4.9
3.1
-0.3
-5.9
1.8
Sep
3.1
2.6
3.0
2.7
2.8
Dec
2.7
3.5
3.2
2.0
1.8
5.4
3.5
4.9
3.0
2.8
16.9
3.2
Dec
3.3
2.6
3.0
2.7
3.1
2.8
3.5
3.2
1.9
1.6
n/a
2008
Mar
3.5
4.6
3.1
3.4
20.5
3.4
2008
Mar
3.41
2.6
3.3
2.9
3.1
Jun
4
Financial market developments
International markets
year. However, rising inflation fears have seen markets now
There has been ongoing turmoil in global markets in recent
move to price in some chance of the US policy rate being
months, albeit with some tentative stabilisation since mid-
increased later this year.
March. Sentiment continued to deteriorate in the weeks
Inflation concerns have also been the focus for markets
following the March Statement, with the situation coming
in the United Kingdom and the eurozone. While the Bank of
to a head in mid-March when fears centred on the survival
England cut its policy rate a further 25 basis points in April,
of US securities firm Bear Stearns. The US Federal Reserve’s
stronger-than-expected inflation has subsequently seen
(the Fed) provision of emergency funding to Bear Stearns
markets move away from expecting further cuts. Likewise,
and its sale to JP Morgan have subsequently proved to
a continued strong emphasis on inflation risks from officials
be somewhat of a turning point. Combined with further
at the European Central Bank has seen eurozone markets
expansion of liquidity facilities by the Fed and other central
move to price in some risk of policy rate increases over the
banks, these actions have prompted some improvement in
next few months. This compares to the situation around the
financial market sentiment.
time of the March Statement, when significant easing was
Reflecting improving investor confidence in credit
expected from both central banks (figure 4.2).
markets, risk appetite measures have risen off their mid-
Figure 4.2
March lows and credit spreads have narrowed from their
Financial market expectations of international
highs (figure 4.1). Nonetheless, sentiment remains fragile.
policy rates
Many credit product markets that have provided an
important source of funding in recent years are still barely
functioning. Credit spreads remain at relatively elevated
%
7
%
7
6
levels and there are ongoing fears that the increased cost
5
and reduced availability of credit will continue to weigh on
4
global economic activity.
3
Expectations
UK
US
5
4
3
Eurozone
2
2
Figure 4.1
As at the
March MPS
1
Credit default swap spread indices
Index
250
Index
600
6
0
Jan00
1
0
Jul00
Jan01
Jul01
Jan02
Jul02
Jan03
Source: Reuters, RBNZ estimates.
200
500
Australasia
(RHS)
150
100
400
Similarly, markets in Australia are pricing some chance
300
of further policy rate increases from the Reserve Bank of
200
US
50
0
Apr-07
inflation pressures and revelations that the RBA discussed
Europe
100
0
Jul-07
Oct-07
Jan-08
Australia (RBA). This follows signs of strong underlying
Apr-08
the possibility of raising its policy rate at its most recent
(May) board meeting.
Central banks in emerging economies have generally
Source: Bloomberg, Reuters.
continued to tighten monetary conditions in 2008. Most
Increased financial system stresses around the time of
notably, Chinese authorities have taken further steps to
the Bear Stearns rescue saw the Fed cut its policy rate by a
tighten monetary conditions as strong domestic demand and
further 75 basis points in March. Combined with another
increased capital inflows have resulted in escalating inflation
25 basis point interest rate cut in April, this brings the total
pressures. Monetary authorities in Singapore, Russia, Brazil
amount of official interest rate cuts by the Fed to 325 basis
and India have also tightened policy.
points since it began cutting its policy rate in September last
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
17
Pressures in short-term money markets remain elevated.
Figure 4.4
This is despite the gradual improvement in most other
Equity indices
financial markets since mid-March. Spreads between
(1 January 2007 = 100)
interbank (Libor and bank bill) rates and expected policy
Index
130
rates (as measured by overnight index swap – OIS – rates)
have yet to narrow significantly (figure 4.3). However, there
have been some signs of improvement lately. In part, this
improvement can be attributed to ongoing central bank
120
Australia
(All Ords)
US
(S&P 500)
100
100
NZ
(NZSE)
90
80
Figure 4.3
rates
%
1.2
%
1.2
UK
80
Japan
(Nikkei)
70
Spreads between three-month Libor and OIS
120
110
110
90
efforts to increase banking system liquidity.
Index
130
60
Jan07
May07
Sep07
Source: Bloomberg, RBNZ.
70
Jan08
May08
60
role. There is considerable uncertainty around the outlook
1.0
for oil prices. Options prices suggest there is a wider-than-
0.8
0.8
usual dispersion of views among market participants.
0.6
0.6
Nevertheless, oil futures suggest markets expect oil prices to
0.4
remain high for the foreseeable future (figure 4.5). It should
US
1.0
0.4
EU
NZ
0.2
AU
0.2
0.0
0.0
-0.2
-0.2
Jan07
May07
Sep07
Jan08
May08
Source: Bloomberg.
Note: Bank bill rates are used instead of Libor in the case of
New Zealand and Australia.
Global equity markets fell to new lows in the weeks
following the March Statement as concerns about bank
liquidity and the credit worthiness of US financial institutions
saw investors withdraw from riskier assets (figure 4.4).
Since that time, equity markets have shown tentative signs
of recovery, in line with developments in credit markets
and some recovery in investor risk appetite. Nonetheless,
share market volatility remains elevated. Market sentiment
be noted that futures do not provide an unbiased forecast
for oil prices.
Figure 4.5
Oil futures prices
(West Texas Intermediate)
USD per barrel
160
140
USD per barrel
160
Futures prices
Current
140
120
120
100
As at the
March MPS
80
60
40
40
20
1999
2001
Source: Bloomberg.
80
60
Crude oil
spot prices
0
100
20
2003
2005
2007
2009
0
has also been bolstered by successful capital raisings by a
range of global financial entities, and some better-thanexpected earnings reports from US corporates. In addition,
energy stocks have received a boost from ongoing gains in
commodity prices.
There has been a tentative recovery in sentiment towards the
US dollar since the March Statement. On a trade-weighted
basis, the US dollar has risen off its mid-March lows,
Most notable in this regard has been oil prices. Since
the March Statement, new highs have been reached in
both spot and futures prices. While geopolitical tensions
are frequently cited as contributing to escalating oil prices,
it appears increased speculative activity has also played a
18
Exchange rates
underpinned by expectations of higher US interest rates.
Firming US dollar sentiment has seen the British pound, the
New Zealand dollar and low yielding currencies such as the
Japanese yen all depreciate against the US dollar since the
March Statement (figure 4.6). In contrast, the Australian
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Figure 4.6
Figure 4.7
Currencies against the US dollar
New Zealand dollar-denominated offshore
Index
125
Index
125
Australian
dollar
120
115
120
Euro
NZ dollar
115
bonds
$billion
5
3
2
110
105
105
100
100
-1
95
-2
Japanese yen
90
Jan07
May07
Sep07
Source: Bloomberg, RBNZ.
British pound
Jan08
May08
90
Outstanding
(RHS)
4
110
95
$billion
60
50
Issues
1
40
0
30
20
-3
10
Maturities
-4
-5
1996
2000
2004
2008
Source: Bloomberg, Reuters, RBNZ.
2012
0
2016
dollar has continued to appreciate as markets contemplate
the possibility of further RBA policy rate increases.
Depreciation in the New Zealand dollar has occurred
against a backdrop of slowing economic growth (see
chapters 3 and 5). The consequent falls in local interest
rates (discussed in Domestic markets at right) have eroded
New Zealand’s yield advantage slightly, reducing investors’
preference for the New Zealand dollar. Partly offsetting this
impact has been a recovery in global risk appetite, which
has increased the relative attractiveness of high yielding
currencies such as the New Zealand dollar.
Also weighing on the New Zealand dollar at the margin
has been a fall in the value of new Uridashi and Eurokiwi
bonds issued (figure 4.7). New issues have generally fallen
short of maturities over the past few months, with the
Domestic markets
New Zealand interest rate markets have moved to price in
a considerable amount of OCR cuts from the Reserve Bank
over the next 12 months (figure 4.8). These moves have
followed signs that the domestic economy is slowing more
sharply than expected previously. Mostly notably, the release
of weak March quarter employment data was a catalyst
for a marked change in OCR expectations among both
traders and analysts. However, signs in Budget 2008 that
fiscal policy is likely to be more expansionary than expected
have led traders to push out the timing of expected rate
cuts compared to the March Statement. At the time of
writing, markets expect the first cut in the OCR to be about
October.
consequent outflow of investor funds being a net drag on
the New Zealand dollar. However, this has been balanced to
Figure 4.8
some extent by increases in offshore holdings of government
Financial market expectations of the OCR
and corporate bonds in recent months, with a notable rise in
8.75
%
Basis points
60
As at the
March MPS
offshore holdings of Kauri bonds (bonds issued in the local
market by offshore entities) in particular.
20
In contrast, market contacts have suggested that
interest in establishing carry trade positions in the New
Current
7.75
0
Zealand dollar has returned as Japanese investors look for
investment alternatives amid volatile equity markets. In fact,
40
8.25
-20
Change (RHS)
7.25
-40
the number of net long positions held by Japanese margin
traders in the New Zealand dollar reached new highs during
6.75
2006
-60
the most recent period of depreciation, with open interest in
Source: Reuters, RBNZ estimates.
2007
2008
2009
NZD/JPY margin contracts on the Tokyo Financial Exchange
now exceeding open interest in USD/JPY.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
19
Reflecting changes in concerns about short-term liquidity,
Figure 4.10
short-term wholesale interest rates have fallen by more than
The wholesale interest rate curve
what might be expected on the basis of OCR expectations.
%
9.0
In line with global developments, New Zealand shortterm interbank (bank bill) rates spiked higher temporarily
towards the end of March, given usual quarter-end-related
preferences for cash relative to security holdings. However,
Basis points
20
Current
8.5
As at the
March MPS
0
8.0
-20
7.5
-40
money market spreads have subsequently narrowed – albeit
to levels still above those prevailing before mid-2007 (figure
4.9). This narrowing partly reflected the Reserve Bank
Net change
(RHS)
announcement on 7 May of additional measures to shore up
7.0
liquidity in domestic markets. From 3 June, the Reserve Bank
Source: Bloomberg, RBNZ.
90d 180d 1yr
2yr
3yr
4yr
5yr
7yr
10yr
-60
will expand the range of acceptable securities for domestic
market operations, reduce the margin in the overnight
As discussed earlier, there have been some signs of
reverse repurchase facility (ORRF), and increase the term of
stabilisation and recovery in global credit markets over
the ORRF to terms of up to 30 days.1
the past couple of months. In line with this, recent debt
issuance by Australasian banks has occurred at slightly
Figure 4.9
narrower spreads to swap than generally seen over the past
90-day bank bill rate and three-month OIS rate
few months. However, these spreads are still relatively wide
%
10
compared to the middle of last year.
Basis points
100
90-day bank
bill rate
9
8
80
60
3-month
OIS rate
7
40
Spread (RHS)
narrowing in the funding premium facing banks, some
fixed mortgage rates have begun to ease off their highs.
Nevertheless, mortgage rates generally remain around 10year highs. In line with movements in swap rates, falls in
mortgage rates have been most prominent in shorter-term
6
20
5
Jan07
May07
Source: Reuters, RBNZ.
Consistent with falls in wholesale interest rates and a
Sep07
Jan08
May08
0
(one- to three-year) fixed rates. This development appears to
be encouraging new borrowers and those facing re-pricing
of existing mortgage debt to opt for slightly shorter-term
fixed rates than has generally been the case over the past
Longer-term wholesale (swap) rates have fallen
substantially since the March Statement, in line with falling
OCR expectations. This is despite higher longer-term interest
rates in many of New Zealand’s key trading partners (most
notably the United States). Shorter-term interest rates (one
to four years) have fallen by slightly more than longer-term
interest rates (five to 10 years), which has resulted in the local
yield curve becoming slightly less ‘inverted’ (figure 4.10).
couple of years.
The effective mortgage rate – the average rate being
paid on outstanding mortgage debt – has continued to rise
since the March Statement as mortgage borrowers rolled
over their existing mortgage debt onto higher interest rates
than they were paying previously. The effective mortgage
rate has now increased by about 170 basis points from its
lows in late 2003, and has reached its highest level since
October 1998 (figure 4.11). About 30 percent of the existing
mortgage debt on fixed rates (representing close to a quarter
of all mortgage debt) will re-price over the next 12 months.
1
20
More details are available at http://www.rbnz.govt.nz/
finmarkets/liquiditymanagement/3311800.html.
On the basis of currently available mortgage rates, many of
those borrowers will face interest rates that are more than
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
100 basis points higher than they are currently paying. As a
As well as households, local corporates have also faced
result, the effective mortgage rate is expected to continue to
higher funding costs as a result of ongoing global funding
rise over the next 12 months.
and credit market pressures. Commercial paper issuance
in the local market has continued to occur at relatively
Figure 4.11
high spreads above bank bill rates (figure 4.12). Moreover,
OCR and effective mortgage rate
%
10
Projection
%
10
contacts note that the cost of bank-provided credit lines to
corporate borrowers remains elevated.
9
Figure 4.12
8
8
Spreads between commercial paper and bank
7
7
6
6
5
5
9
4
Effective mortgage rate
1999
2001
Source: RBNZ.
Official Cash Rate
2003
2005
2007
2009
bill rates
Basis points
50
Basis points
50
40
40
30
30
20
20
10
10
0
0
4
-10
-10
2002
2003
2004
2005
2006
2007
Source: Reuters, RBNZ.
Note: Spread is the average monthly A1-rated commercial paper
rates relative to bank bill rates on date of issuance.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
21
5
The macroeconomic outlook
Since the March Statement, a number of economic
Figure 5.1
developments have led us to substantially revise our outlook
Trading partner GDP
for the domestic economy. The housing market has slowed
(annual average percent change)
sharply, there have been large increases in the international
%
5.0
Projection
prices of oil and food, the world outlook has deteriorated,
and the labour market appears to have weakened. Several
%
5.0
4.0
4.0
3.0
3.0
projection, despite a weaker activity outlook.
2.0
2.0
World outlook
1.0
1.0
of these developments are driven by global phenomena and
are confronting central banks around the world. Compared
to March, we are projecting higher inflation throughout the
1995 1997 1999 2001 2003 2005 2007 2009
Source: Consensus Economics Inc., RBNZ estimates.
In line with the May Consensus forecasts, we are assuming a
marked slowdown in world growth over the next two years
(table 5.1, figure 5.1).1 The primary driver is a downturn
There remains considerable uncertainty around the
in US activity. Domestic demand in the United States has
extent to which growth in Asia will prove to be resilient
already contracted sharply and households face falling house
to slowing Western economies. While exports to Western
prices, a soft labour market, and tight lending conditions. US
economies will ease, this is likely to be partly offset by
growth is projected to slow from 2.5 percent in 2007 to 1
strong demand from emerging economies, including the
percent in 2008, and to remain below trend through 2009.
Middle East and emerging Europe. On balance, we expect a
relatively modest slowdown in Asian growth.
Activity in Australia has begun to moderate and we
expect further easing in activity over the near term. The
While the recent increases in food and fuel prices have
Reserve Bank of Australia has signalled that significantly
produced a sharp rise in world inflation, ‘core’ inflation
lower growth is required to return inflation to more
measures in a number of regions are also elevated. We
comfortable levels.
expect inflation from Asia (excluding Japan) to renew an
upward trend over the projection. Domestic inflation in
Table 5.1
Forecasts of export partner GDP*
(calendar year, annual average percent change)
Country
Australia
Asia ex-Japan**
United States
Japan
Eurozone***
United Kingdom
Canada
12 Country Index
*
**
*** 1
22
2003
2004
2005
2006
2007
2008f
2009f
3.0
5.3
2.5
1.5
0.8
2.8
1.9
2.8
3.8
7.6
3.6
2.7
1.9
3.3
3.1
4.1
2.8
6.7
3.1
1.9
1.7
1.8
3.1
3.3
2.8
7.5
2.9
2.4
2.9
2.9
2.8
3.7
3.9
7.6
2.2
2.1
3.0
3.0
2.7
3.9
3.0
6.5
1.3
1.3
1.5
1.8
1.3
3.0
3.0
6.5
1.9
1.6
1.6
1.7
2.2
3.2
Source: Consensus Economics Inc.
Includes China, Hong Kong, Malaysia, Singapore, South Korea and Taiwan.
Includes Austria, Belgium, Cyprus, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg, Malta, Netherlands, Portugal,
Slovenia and Spain.
‘World growth’ is an export-weighted average of the growth in New Zealand’s 12 major trading partners.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
China has increased and appreciation in the yuan has lifted
United States, who together take more than half of New
the prices of Chinese-made products in foreign currencies.
Zealand’s manufactured exports. There is a risk that the
Overall, we see upside risk to world inflation, which if it
prices for manufactured exports and dairy products prove
materialises could lead to tighter policy and weaker global
stronger than we are anticipating.
In light of the recent surge in the price of oil, our
activity from mid-2009.
projected oil price track is substantially higher than in the
March Statement (figure 5.3). We continue to expect oil
The terms of trade
After a substantial rise in export prices during 2007, we
expect a moderate fall in prices over the projection horizon
(figure 5.2). We anticipate a reversal in some of the factors
that drove prices to record levels, such as dry conditions in
Australia and a dramatic run-down in global dairy stocks.
Thus, our projection assumes that the recent easing in
prices to ease from current levels in response to slowing
world growth and a gradual supply response. However,
we expect that they will remain at historically high levels,
reflecting strong growth in emerging economies and higher
marginal costs of supply (see box D for a discussion of the
macroeconomic effects of higher oil prices).
international dairy prices will continue, with lower skim milk
Figure 5.3
powder prices to be reflected in the prices of other dairy
Dubai oil price
products.
USD/barrel
140
Figure 5.2
120
120
Real world commodity export prices
100
100
(deflated using world CPI)
Index
160
80
Index
160
Projection
140
140
120
120
100
100
USD/barrel
140
Projection
60
80
March
projection 60
40
40
20
20
0
0
1995 1997 1999 2001 2003 2005 2007 2009
Source: Datastream, RBNZ estimates.
Ex-oil import prices are expected to continue rising in
80
80
60
60
1995 1997 1999 2001 2003 2005 2007 2009
Source: Consensus Economics Inc., ANZ National Bank Group
Ltd, RBNZ estimates.
the near term. This rise is partly due to the recent boom
in the spot prices of food commodities (see box C, chapter
3). Increases in demand from emerging economies are
also expected to maintain pressure on input prices such as
fertiliser and iron ore. The sustained strength of growth and
Even though dairy prices are expected to fall, they are
rising domestic inflation in emerging economies, such as
still forecast to remain above their historical average due
China, means that these economies are no longer likely to
to increasing demand from emerging markets, changes
have a disinflationary effect on global inflation.
to subsidies in the European Union, and diversion of
The speed of the recent increases in oil and other
resources to bio-fuel production. Some of these factors are
commodity prices generates substantial uncertainty around
also expected to support further increases in meat prices.
the outlook for import prices, both to the upside and to
In contrast, the prices of forestry products are expected to
the downside. If global commodity prices increase further or
remain depressed due to weak housing markets in many of
the increases in wholesale prices are fully reflected in import
New Zealand’s export destinations. We have also assumed
prices, then our projections might be too conservative.
that world manufacturing prices will soften in line with the
Alternatively, the use of fixed price contracts might reduce
weaker outlook for growth in Australia and particularly the
or delay the extent of price pass-through.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
23
Box D
• If the initial rise in CPI inflation spills over into people’s
perceptions of medium-term inflation, an oil price
The impact of higher oil prices on
shock can also result in ongoing inflationary effects
activity and inflation
to the extent that firms and households adjust their
Since the March projections were finalised in late February,
medium-term price and wage setting behaviour.
the Dubai oil price (the most relevant for the New Zealand
economy) has increased from just above US$90 per barrel
to close to US$130 per barrel. Gains of this magnitude
are challenging for monetary policy in that they have a
substantial positive influence on inflation, and a substantial
negative influence on activity.
Conversely, higher oil prices act to dampen domestic
economic activity. Due to an only limited ability to substitute
away from petrol and diesel consumption – especially in the
short term – higher oil prices reduce the spending power
of firms and households. Reduced spending power has a
negative impact on economic growth.
Higher oil prices boost inflation through a variety of
channels.
Looking forward, our working assumption is for the
US dollar price of Dubai oil to decline moderately from its
• Changes to world oil prices are passed through almost
immediately to domestic petrol prices. With petrol
current peak to around US$95 per barrel by the end of the
projection.
comprising just over 5 percent of the CPI, increases in
petrol prices have a fairly immediate direct effect on
headline inflation.
Implicit in this assumption is that supply capacity
responds to current price levels. There are clear risks around
this assumption. A more sluggish supply response could
• Oil, petrol and other petroleum products are also
inputs into firms’ production processes, with fuel costs
a significant component of many prices. Hence, a rise
in oil prices is also likely to lead to price increases for
other goods and services, such as air travel. We have
assumed that just over half of the direct price effects
result in a higher price profile. Indeed, oil futures prices
have risen even further than spot prices in recent months.
While oil futures do not provide an unbiased forecast for
oil prices, they underline the risk that oil prices could hold
at current levels, or even increase further, over the year
ahead.
are indirectly passed through into other consumer
price increases.
In summary, reductions in export prices and increased
Figure 5.4
import prices are expected to sharply lower New Zealand’s
OTI terms of trade, world export and import
terms of trade (figure 5.4). As a result, the dairy-driven boom
prices (goods)
in the terms of trade that has occurred over the past year is
Index
150
expected to be completely eroded over the coming year.
140
130
Exchange rate
Projection
140
World export prices
120
In comparison to the March Statement, we are anticipating
a sharper fall in the TWI due to our weaker outlook for New
Zealand growth (figure 5.5). While a lower TWI benefits
exporters’ incomes, it also increases the prices of imported
goods and reduces households’ purchasing power. Despite
the downward revision to our outlook for the TWI, a
110
80
130
120
Terms of trade
100
90
Index
150
110
100
World import prices
1995 1997 1999 2001 2003 2005 2007 2009
90
80
Source: Statistics New Zealand, RBNZ estimates.
sequence of weak economic data may lead to a more rapid
and pronounced currency depreciation.
24
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Figure 5.5
Figure 5.6
Nominal TWI assumption
Total export volumes (goods and services)
Index
75
Index
75
March
projection
70
70
65
65
(percent of trend output and annual average
percent change)
%
35
%share
34
60
Projection 60
55
55
50
50
45
1995 1997 1999 2001 2003 2005 2007 2009
45
Source: RBNZ estimates.
Projection
33
%
10
8
6
32
4
31
2
30
0
29
AAPC (RHS)
28
Export volumes
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
-2
Based on the assumption of reasonable weather conditions
over the forecast horizon, we expect a gradual recovery in
agricultural export volumes. Dairy volumes are expected to
recover quicker than meat volumes due to the increased
number of dairy conversions and lower stock numbers
resulting from drought-related early slaughter.
Manufactured exports are likely to be hampered in the
near term as some manufacturers cut back production in
response to high wholesale electricity prices and weaker
world growth. The effect on manufacturing will be even
more pronounced if lake levels continue to decline and a
nationwide electricity savings campaign is introduced.
Further out in the projection, the recovery in world growth
and the lower exchange rate will help to resume the upward
trend in manufactured exports. Exports of services are also
expected to recover slowly over the projection. While weaker
world growth is projected to reduce the number and spend
Import volumes and the current
account
The projected increases in import prices and the anticipated
fall in the New Zealand dollar generate a sharp rise in
domestic import prices. This is likely to reduce consumption
of imported goods. More generally, import volumes will be
dampened as households cut back on discretionary spending,
and lower corporate profits stall business investment.
Over the remainder of 2008, the marked deterioration
in the terms of trade is likely to limit a recovery in the current
account balance (figure 5.7). Further out, falling corporate
profits in New Zealand and lower domestic interest rates
generate an improvement in the investment income balance.
By the end of the projection horizon, the forecast current
account deficit narrows to about 6 percent of GDP.
of overseas visitors over 2008, the lower exchange rate is
likely to support a subsequent recovery in tourism activity.
Overall, export growth is anticipated to fall in the near term
and recover thereafter in line with the weaker TWI (figure
5.6).
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
25
Figure 5.7
Figure 5.8
Current account balance, goods and services
Net permanent and long-term immigration
balance, and investment income balance
(annual total)
(annual percent of GDP)
000s
50
%of GDP
6
4
Goods and services balance
%of GDP
6
Projection
4
2
2
0
0
-2
-4
-4
-6
-6
-8
-8
Investment income balance
-10
-10
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
000s
50
40
40
30
30
20
20
10
10
0
0
-2
Current account balance
Projection
-10
-10
-20
-20
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
Figure 5.9
Labour market and net immigration
Unemployment rate
Despite the latest employment data suggesting weakness,
8
the labour market remains tight. Accordingly, we expect
wage inflation to stay high over the coming year in line
with rising inflation expectations. Further out, reductions in
%
%
Projection
8
7
7
6
6
5
5
4
4
3
3
labour demand are likely to lead to a moderation in wage
inflation. While job losses might be initially concentrated in
the housing and retail sectors, there are likely to be flow-on
effects to other sectors.
As a declining number of jobs discourages unemployed
workers from actively seeking employment, we expect the
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
workforce participation rate to fall. Increased departures to
Australia are likely to keep net immigration low, but positive
(figure 5.8). Despite this, the large fall in employment
House price inflation and residential
engenders a sharp rise in the unemployment rate over the
investment
projection horizon (figure 5.9). The unemployment rate
Since the March Statement, the housing market has slowed
is forecast to reach 5 percent by September 2009 and 6
more sharply than expected and there appears to be a large
percent by March 2011.
adjustment under way. House sales have fallen significantly,
A key uncertainty around the labour market outlook is
net immigration. While a greater number of departures to
leading us to expect further falls in house prices over the
projection (figure 5.10).
Australia would sustain labour market tightness, it would
likely lead to a larger slowdown in the housing market.
26
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Figure 5.10
Figure 5.11
House price inflation
Residential investment
(annual)
(percent of trend output and annual average
%
%
25
Projection
25
20
20
15
15
10
10
5
0
5
March
projection
0
-5
-5
-10
-10
1995 1997 1999 2001 2003 2005 2007 2009
Source: Quotable Value Limited, RBNZ estimates.
As with all asset prices, projecting house prices with
any degree of accuracy is very difficult. From their peak in
2007, nominal house prices are assumed to fall by about
13 percent. This compares to a nominal fall of 16 percent in
US house prices to March 2008, according to the S&P/CaseShiller Home Price Index. In real terms, we are projecting
a 22 percent fall in New Zealand. This compares to a 38
percent fall in New Zealand real house prices following the
first oil price shock in the 1970s.
The speed with which the housing market has already
slowed raises the risk that house prices will fall more quickly
percent change)
%
7.0
6.0
10
5.5
0
5.0
-10
4.5
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
The slowing housing market, lower terms of trade, and
weaker labour market generate a period of falling real
consumption (figure 5.12).
Figure 5.12
Real household consumption
(percent of trend output and annual average
percent change)
experiencing larger corrections than others.
63
housing market, and return nominal house price inflation to
zero by the end of the projection.
In line with falling house prices, we expect a substantial
and rising building costs also contribute to this outlook.
AAPC (RHS)
Projection
6
4
3
61
2
60
59
%
7
5
62
1
%share
58
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
contraction in residential investment (figure 5.11). High
mortgage rates, low net immigration, falling real incomes
-30
Consumption
64
projected to support a gradual recovery in New Zealand’s
-20
%share
4.0
regional variation in the housing market, with some regions
in global credit market conditions. These factors are
%
30
20
%
65
expected due to lower official interest rates and improvement
Projection
6.5
than we have assumed. There is also likely to be significant
Further out, an eventual easing in mortgage rates is
AAPC (RHS)
0
-1
High interest rates will also suppress consumption.
The effective mortgage rate is not projected to ease until
late 2009. Many households will need to devote a high
proportion of their income to debt servicing costs, limiting
their discretionary spending.
High global food and energy prices will have a large
impact on the spending power of households. The domestic
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
27
prices of these goods will be pushed up further by a weaker
Figure 5.13
New Zealand dollar. The tax cuts and increased transfers
Business investment
announced in Budget 2008 will provide some offset to these
(excluding computers and intangible assets,
rising costs over late 2008 and early 2009.
percent of trend output and annual average
The projected reduction in agricultural incomes, in part
due to drought and falling international prices of dairy
percent change)
%
14
Projection
exports, is also playing a role in reducing expected incomes.
Together with the easing in the labour market, this is likely to
reduce growth in nominal household incomes throughout
the forecast.
Faced with lower nominal income growth and higher
13
10
12
5
11
AAPC
(RHS)
consumer prices, households must decide whether to take
on extra debt or lower their standard of living. Our projection
assumes that, due to the weak outlook for house prices and
high interest rates, households’ desire and ability to take
%
15
10
%share
9
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
0
-5
-10
on more debt will be limited. We expect that households
will look more carefully at their expenditure and will limit
support continued oil exploration for a number of years.
the extent to which they increase spending. As a result, the
The main risk is that the decline in total business investment
household saving rate is projected to improve from around
occurs sooner than we are projecting.
-12 percent at present to -5 percent by the end of the
Government
projection.
As noted earlier, fiscal policy is expected to buffer the fall
Business investment
in economic activity over the projection. Based on Budget
In the near term, we expect business investment to remain
2008, government spending is projected to grow faster than
reasonably strong (figure 5.13). We then expect a substantial
the rest of the economy (figure 5.14). The Government’s
slowing in business investment later this year. In addition
announced personal tax cuts are also likely to provide some
to weaker household spending, tight credit conditions are
offset to the many headwinds currently facing the household
limiting the ability of firms to raise funds for investment.
sector. Overall, fiscal policy is expected to add to growth and
Furthermore, our assumption of a lower New Zealand dollar
inflation pressure over the next few years.
will raise the costs of imported investment goods. Margin
compression, stemming from falling demand that prevents
producers from passing on these higher costs, will also
dampen investment.
Plant and machinery investment is expected to remain
steady over the near term and then decline over the latter
part of 2008 and early 2009 following recent declines
in investment intentions. Non-residential investment is
projected to remain flat over the first half of 2008, before
declining over the remainder of the projection. In contrast,
we expect intangible asset investment to increase gradually
as a share of GDP. Recent issuance of oil exploration permits
for the Great South Basin and high oil prices are likely to
28
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Figure 5.14
In contrast to New Zealand’s past contractions, we are
Government spending
projecting a relatively long period of low growth. The length
(excluding military spending, percent of trend
of the downturn is in part required to keep medium-term
output)
inflation under control. A key risk is that the downturn
%
21.0
%
21.0
Projection
occurs more quickly than anticipated, due to a sharper
slowdown in the housing market, further increases in fuel
20.5
20.5
20.0
20.0
19.5
19.5
19.0
19.0
18.5
18.5
and food prices, or weaker export demand.
The projected slowdown in growth creates the risk
that potential growth will also slow, for example through
the impact of higher energy costs on productive capacity. A
larger reduction in potential growth would mean less of an
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
easing in capacity pressures and therefore more persistent
inflationary pressures. However, strong growth in capital
investment over the past few years is expected to glean
further productivity gains.
Gross domestic product
Inflation
The softer growth outlook largely reflects much weaker
The recent strength in food and petrol prices is projected to
household sector activity, accompanied by an easing in
boost tradable inflation over the near term. The anticipated
business investment. The deterioration in the global outlook
slowing in demand for imported items provides a partial
prevents the weaker TWI from generating a quicker recovery
offset. Non-tradable inflation is also expected to remain
in the export sector. Annual average GDP growth is expected
elevated over the next year, driven by strong cost pressures
to reach a trough of just under 1 percent in mid-2009 (figure
emanating from wages, fuel and electricity. Overall, annual
5.15). The projected increase in import prices creates a
inflation is projected to peak at 4.7 percent in the September
significant drag on real gross domestic income – the real
quarter (figure 5.16).
purchasing power of New Zealand’s income.
Further out, non-tradable inflation is expected to ease
in line with weaker activity. A sharper easing is prevented
Figure 5.15
by rising production costs and persistently high inflation
Real gross domestic product and real gross
expectations, which remain close to 3 percent. Annual
domestic income
Figure 5.16
(annual average percent change)
%
7
6
Real gross
domestic income
%
7
Projection
6
5
5
4
4
3
3
2
Real gross
domestic product
2
CPI, tradable and non-tradable inflation
(annual)
%
8
6
Projection
%
8
6
Non-tradable
4
4
CPI
1
2
2
0
0
0
0
-1
-1
1
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
-2
-4
Tradable
1995 1997 1999 2001 2003 2005 2007 2009
Source: Statistics New Zealand, RBNZ estimates.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
-2
-4
29
inflation is expected to stay above the top of the target
and delaying of the regional fuel tax directly lowers tradable
band until late 2009, before declining to 2.5 percent in early
inflation. Excluding the first-round effects of the emissions
2011.
trading scheme, annual inflation reaches 2.3 percent by the
Recent announcements by the Government relating to
end of 2010.
climate policy have alleviated some pressure from tradable
There remains considerable uncertainty around our
inflation. The delay of the liquid fuel transport sector into
projection for inflation. The key risks are that the near-term
the emissions trading scheme from 2009 to 2011 allows
rise in tradable inflation becomes more embedded in price
more time for monetary policy to respond to the second-
and wage setting behaviour than we have assumed or that
round inflation pressure that is expected to emerge from the
we see further increases in the global prices of food and
sector’s entry. As in March, we are assuming an emission unit
fuel.
price of $25 per tonne. In addition, the apparent downsizing
30
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Appendix A1
Summary tables
Table A
Projections of CPI inflation and monetary conditions
(CPI and GDP are percent changes)
CPI
CPI
Quarterly
2002
Mar
0.6
Jun
Sep
2003
2004
2005
2006
2007
2008
2008
2009
2010
TWI
90-day
Annual
bank bill rate
2.6
51.6
5.0
1.0
2.8
54.6
5.8
0.5
2.6
53.9
5.9
Dec
0.6
2.7
56.4
5.9
Mar
0.4
2.5
60.6
5.8
Jun
0.0
1.5
61.1
5.4
Sep
0.5
1.5
62.4
5.1
Dec
0.7
1.6
63.9
5.3
Mar
0.4
1.5
66.9
5.5
Jun
0.8
2.4
64.0
5.9
Sep
0.6
2.5
66.3
6.4
Dec
0.9
2.7
68.6
6.7
Mar
0.4
2.8
69.6
6.9
Jun
0.9
2.8
70.8
7.0
Sep
1.1
3.4
69.7
7.0
Dec
0.7
3.2
71.5
7.5
Mar
0.6
3.3
68.2
7.5
Jun
1.5
4.0
62.8
7.5
Sep
0.7
3.5
63.6
7.5
Dec
-0.2
2.6
67.0
7.6
Mar
0.5
2.5
68.8
7.8
Jun
1.0
2.0
72.0
8.1
Sep
0.5
1.8
71.4
8.7
Dec
1.2
3.2
71.0
8.8
Mar
0.7
3.4
71.9
8.8
First half average
1.1
3.6
71.0
8.8
Second half average
1.1
4.6
67.8
8.5
First half average
0.7
4.1
65.9
8.1
Second half average
0.7
3.1
64.5
7.8
First half average
0.7
2.9
62.9
7.3
Second half average
0.7
2.7
61.8
6.7
Quarterly projections
CPI
CPI
GDP
Quarterly
Annual
Quarterly
Sep
0.5
1.8
0.5
3.3
Dec
1.2
3.2
1.0
3.7
2007
2008
1
GDP
Annual Average
Mar
0.7
3.4
-0.3
2.1
Jun
1.4
3.8
0.2
1.4
Sep
1.3
4.7
Notes for these tables follow on pages 34 and 35.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
31
32
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
2008
4.8
GDP (production, March qtr to March qtr)
1
Percentage point contribution to the growth rate of GDP.
3.8
GDP (production)
3.5
Expenditure on GDP
4.0
3.8
Gross national expenditure
Imports of goods and services
0.1
Stockbuilding1
3.0
3.9
Final domestic expenditure
Exports of goods and services
6.8
16.7
Total
Non-market government sector
2.0
7.1
Residential
Business
4.5
5.1
5.1
7.2
7.8
4.8
-0.1
5.0
7.8
14.5
2.3
23.5
4.8
3.8
3.8
12.7
0.9
7.6
0.2
7.7
12.8
13.9
12.1
14.4
2.4
3.8
3.6
12.5
4.7
6.2
0.3
5.7
7.6
5.2
9.8
2.7
5.1
2.5
2.7
3.0
4.1
-0.1
4.3
-0.6
4.9
5.2
-2.3
9.5
-4.5
4.8
2.3
1.5
2.4
-1.7
3.1
0.8
-0.9
1.7
-2.3
-8.6
-1.4
-2.7
3.1
4.3
4.0
2.1
1.1
0.9
3.1
1.3
0.7
2.9
9.5
1.0
3.1
0.8
0.2
5.1
0.6
0.8
4.2
-0.2
7.7
3.7
-17.0
5.5
-2.6
7.0
1.1
3.5
0.4
2009
3.8
4.8
6.0
5.1
Market sector:
4.2
4.0
3.1
4.6
Gross fixed capital formation
Total
1.4
2.7
2007
4.0
4.7
2006
Public authority
5.3
Actuals
2005
6.5
2004
3.5
5.0
2003
2.8
2002
Private
Final consumption expenditure
March year
(annual average percent change, unless specified otherwise)
Table B
Composition of real GDP growth
1.6
1.4
1.4
-1.4
3.8
-0.2
-0.1
-0.1
-1.6
10.9
-2.5
-3.5
0.3
2.1
-0.2
Projections
2010
3.0
2.5
2.4
0.3
4.6
1.0
-0.1
1.1
2.4
7.3
0.2
9.2
0.7
2.6
0.1
2011
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
33
2.1
-2.9
-3.5
Import prices (in New Zealand dollars)
Export prices (in New Zealand dollars)
3.8
3.4
0.2
GDP (production, annual average % change)
Potential output (annual average % change)
Output gap (% of potential GDP, year average)
TWI (year average)
-3.1
4.2
-3.8
Current account balance (% of GDP)
Terms of trade (OTI measure, annual average % change)
Household saving rate
(% of disposable income)
1.9
1.6
Trend labour productivity
Government operating balance (% of GDP, year to June)
5.2
Unemployment rate (March qtr, seasonally adjusted)
1.6
1.4
World GDP (annual average % change)
World CPI inflation
World economy
Key balances
3.5
Total employment
Labour market
Output
5.4
50.3
90-day rate (year average)
Monetary conditions
2.6
Labour costs
2002
CPI
Price measures
March year
(annual percent change, unless specified otherwise)
Summary of economic projections
Table C
2.2
3.0
-12.4
-5.7
-3.4
1.5
1.3
4.8
1.5
1.4
3.7
5.1
56.4
5.9
-15.5
-11.1
2.2
2.5
2003
1.5
3.3
-9.3
3.9
-4.8
5.3
1.2
4.1
3.1
1.6
3.6
3.8
63.6
5.3
-5.1
-10.5
2.1
1.5
2004
2.1
3.7
-9.8
5.8
-6.9
4.2
1.1
3.8
3.4
2.2
3.2
3.8
67.1
6.5
4.9
0.5
2.5
2.8
2005
Actuals
2.5
3.6
-14.6
-0.8
-9.3
7.3
1.2
3.9
2.6
2.0
2.9
2.7
70.1
7.3
3.6
6.9
3.0
3.3
2006
2.0
3.6
-14.1
1.9
-8.2
4.8
1.4
3.7
1.7
0.8
2.3
1.5
65.6
7.6
4.8
0.3
3.0
2.5
2007
3.4
3.8
-12.3
7.2
-7.6
1.4
1.8
3.6
-0.2
1.1
2.7
3.1
71.6
8.6
10.6
1.1
3.5
3.4
2.2
2.9
-10.0
-4.4
-9.4
1.4
2.0
4.6
-0.2
-0.8
2.8
0.9
67.9
8.5
3.8
16.6
3.5
4.4
2009
2008
2.1
3.3
-7.2
-3.3
-7.9
1.3
2.2
5.5
-0.4
-2.1
2.8
1.4
64.5
7.8
2.5
3.9
2.9
3.0
2010
Projections
1.9
3.5
-5.1
-1.2
-6.7
1.4
2.2
6.0
0.0
-2.5
2.9
2.5
61.8
6.7
3.0
4.9
2.2
2.6
2011
Notes to the tables
CPI
Consumers Price Index. Quarterly projections rounded to one decimal place.
TWI
RBNZ. Nominal Trade Weighted Index of the exchange rate. Defined as a
geometrically-weighted index of the New Zealand dollar bilateral exchange rates
against the currencies of Australia, Japan, the United States, the United Kingdom and
the eurozone.
90-day bank bill rate
RBNZ. Defined as the interest yield on 90-day bank bills.
World GDP
Reserve Bank definition. 12-country index, export weighted. Projections based on
Consensus Forecasts. Seasonally adjusted.
World CPI inflation
RBNZ definition and estimate. TWI trading partners’ CPI inflation, weighted by TWI
weights. Projections based on Consensus Forecasts.
Import prices
Domestic currency import prices. Overseas Trade Indexes.
Export prices
Domestic currency export prices. Overseas Trade Indexes.
Terms of trade
Constructed using domestic currency export and import prices. Overseas Trade Indexes.
Private consumption
System of National Accounts.
Public authority consumption
System of National Accounts.
Residential investment
RBNZ definition. Private sector and government market sector residential
investment. System of National Accounts.
Business investment
RBNZ definition. Total investment less the sum of non-market investment and
residential investment. System of National Accounts.
Non-market investment
RBNZ definition. The System of National Accounts annual nominal government
non-market/market investment ratio is interpolated into quarterly data. This ratio
is used to split quarterly expenditure GDP government investment into market and
non-market components.
Final domestic expenditure
RBNZ definition. The sum of total consumption and total investment.
System of National Accounts.
Stockbuilding
Percentage point contribution to the growth of GDP by stocks.
System of National Accounts.
Gross national expenditure
Final domestic expenditure plus stocks. System of National Accounts.
Exports of goods and services
System of National Accounts.
Imports of goods and services
System of National Accounts.
GDP (production)
System of National Accounts.
Potential output
RBNZ definition and estimate. Refer to Conway, P and B Hunt (1997),
‘Estimating Potential Output: a semi-structural approach’, Reserve Bank of New
Zealand Discussion Paper, G97/9.
Output gap
RBNZ definition and estimate. The percentage difference between real GDP
(production, seasonally adjusted) and potential output GDP.
Current account balance
Balance of Payments.
Total employment
Household Labour Force Survey.
Unemployment rate
Household Labour Force Survey.
Household saving rate
Household Income and Outlay Accounts.
34
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Government operating balance
Historical source: The Treasury. Adjusted by the RBNZ over the projection period.
Labour productivity
The series shown is the annual percentage change in a trend measure of labour
productivity. Labour productivity is defined as GDP (production) divided by Household Labour Force Survey hours worked.
Labour cost
Private sector all salary and wage rates. Labour Cost Index.
Real gross domestic income
The real purchasing power of domestic income, taking into account changes in the
terms of trade. System of National Accounts.
Quarterly percent change
(Quarter/Quarter-1 - 1)*100
Annual percent change
(Quarter/Quarter-4 - 1)*100
Annual average percent change
(Year/Year-1 - 1)*100
Source: Unless otherwise specified, all data conform to Statistics New Zealand definitions, and are not seasonally adjusted.
Rounding: All projections data are rounded to one decimal place.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
35
Appendix B
Companies and organisations contacted by RBNZ staff
during the projection round
A & R Whitcoulls Group Holdings Pty Ltd
Lockwood Group Ltd
A.E. Tilley Ltd
Marac Finance Ltd
APN New Zealand Publishing
Meat & Wool New Zealand
Arthur Barnett Ltd
Methven Ltd
Barfoot & Thompson
New Zealand Council of Trade Unions
Business New Zealand
New Zealand Winegrowers Association
Cadbury Confectionery Ltd
Noel Leeming Group Ltd
Cambridge Clothing Company Ltd
New Zealand Marine Export Group Ltd
Canterbury Manufacturers’ Association
Orion New Zealand Ltd
Coin Cascade Ltd
Otago Regional Council
Colliers International NZ Ltd
Pacific Tourways Ltd
Delta Ltd
Port Otago Ltd
Dunedin City Council
Progressive Enterprises Ltd
Environment Canterbury
QBE Insurance (International) Ltd
Federated Farmers of New Zealand (Inc)
Richina Pacific Ltd
Financial Services Federation (Inc)
Rio Tinto Alcan New Zealand Ltd
Fletcher Building Ltd
Rotorua District Council
Fonterra Co-operative Group Ltd
Scales Corporation Limited
Foodstuffs (Auckland) Ltd
Scenic Circle Hotels Ltd
Foster Construction Group Ltd
SKYCITY Entertainment Group Ltd
Freear Philip Ltd
Steel & Tube Holdings Ltd
Fulton Hogan Ltd
Tachikawa Forest Products (NZ) Ltd
G E Money New Zealand
Tamahine Holdings Ltd
Gallaway Cook Allan
Tecpak Industries Ltd
Glengarry Hancocks Ltd
The Waikato Times
Godfrey Hirst New Zealand Ltd
Tuatara Management Ltd
Golden Bay Cement Company
Vita New Zealand Ltd
Greenlea Premier Meats Ltd
Wellington City Council
Greens Industries New Zealand Ltd
Westland Co-operative Dairy Company (Westland Milk
Hayes International Ltd
Products) Ltd
Hume Pine (NZ) Ltd
36
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Appendix C
Reserve Bank statements on monetary policy
OCR unchanged at 8.25 percent
OCR unchanged at 8.25 percent
6 March 2008
24 April 2008
The Official Cash Rate (OCR) will remain unchanged at 8.25
The Official Cash Rate (OCR) will remain unchanged at 8.25
percent.
percent.
Reserve Bank Governor Alan Bollard said: “The outlook
Reserve Bank Governor Alan Bollard said: “Economic
for economic activity has deteriorated somewhat since we
activity has weakened more markedly than expected in the
reviewed the OCR in January. The main reasons are weaker
Bank’s March Monetary Policy Statement. There have been
prospects for world growth, tighter credit conditions, a
sharp falls in consumer and business sentiment, exacerbated
sharper-than-expected slowing in the housing market, and
by tighter credit conditions, a further decline in the housing
recent dry weather conditions. On balance, we now expect
market and weaker prospects for world growth. Financial
GDP growth of around 2 percent over the next three years.
market turbulence around the world continues to add to
“Despite the weaker outlook for activity, we expect
an uncertain economic environment. Further, the very dry
headline inflation to remain high, partly due to the inclusion
summer is also weakening short-term growth prospects.
of the planned emissions trading scheme in our projection.
“However, the labour market is still strong and New
Higher food and energy prices are also contributing to
Zealand’s key international commodity prices remain
near-term inflation. Furthermore, over the medium term,
high. Government spending plans and the possibility of
a tight labour market, strength in commodity prices, and
personal tax cuts can also be expected to limit the economic
the impact of announced government spending plans and
slowdown.
assumed personal tax cuts will add to inflationary pressure.
“The weaker economy will, over time, ease accumulated
Excluding the effects of the emissions trading scheme,
pressure on resources and reduce inflation pressure.
inflation is projected to return close to the mid-point of the
However, short term inflation is likely to remain persistently
target band by 2010.
high, due in large part to repeated increases in food and
“There is more uncertainty than usual at present, with
energy prices. There is a risk that wage settlements respond
downside risks to activity and upside risks to inflation. The
to these short term price shocks rather than adjusting to the
main downside risks are a further deterioration in the world
changing economic conditions, thus perpetuating inflation
economy, tighter credit conditions, and the potential for a
pressures.
more severe downturn in the housing market. Conversely,
“We see significant downside risk to future activity but
further strength in labour costs, additional fiscal stimulus,
upside risks to inflation. A further risk to the outlook is the
and high inflation expectations represent key upside risks to
persistently strong New Zealand dollar which, while helping
underlying inflation.
moderate headline CPI inflation, remains a drag on export
“Given this outlook, we expect that the OCR will need
growth.
to remain at current levels for a significant time yet to ensure
“Given this outlook, we expect that the OCR will need
inflation outcomes of 1 to 3 percent on average over the
to remain at current levels for a time yet to ensure inflation
medium term.”
outcomes of 1 to 3 percent on average over the medium
term.”
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
37
Appendix D
The Official Cash Rate chronology
Date OCR
(percent)
Date OCR
(percent)
17 March 1999
4.50
23 October 2003 21 April 1999 4.50
4 December 2003
5.00
19 May 1999 4.50
29 January 2004
5.25
30 June 1999 4.50
11 March 2004
5.25
18 August 1999 4.50
29 April 2004
5.50
29 September 1999 4.50
10 June 2004
5.75
17 November 1999 5.00
29 July 2004
6.00
19 January 2000 5.25
9 September 2004
6.25
15 March 2000 5.75
28 October 2004
6.50
19 April 2000 6.00
9 December 2004
6.50
17 May 2000 6.50
27 January 2005
6.50
5 July 2000
6.50
10 March 2005
6.75
16 August 2000
6.50
28 April 2005
6.75
4 October 2000 6.50
9 June 2005
6.75
6 December 2000
6.50
28 July 2005
6.75
24 January 2001 6.50
15 September 2005
6.75
14 March 2001 6.25
27 October 2005
7.00
19 April 2001
6.00
8 December 2005
7.25
16 May 2001 5.75
26 January 2006
7.25
4 July 2001
5.75
9 March 2006
7.25
15 August 2001 5.75
27 April 2006
7.25
19 September 2001 5.25
8 June 2006
7.25
3 October 2001 5.25
27 July 2006
7.25
14 November 2001 4.75
14 September 2006
7.25
23 January 2002 4.75
26 October 2006
7.25
20 March 2002
5.00
7 December 2006
7.25
17 April 2002
5.25
25 January 2007
7.25
15 May 2002
5.50
8 March 2007
7.50
3 July 2002
5.75
26 April 2007
7.75
14 August 2002
5.75
7 June 2007
8.00
2 October 2002
5.75
26 July 2007
8.25
20 November 2002
5.75
13 September 2007
8.25
23 January 2003
5.75
25 October 2007
8.25
6 March 2003 5.75
6 December 2007
8.25
24 April 2003 5.50
24 January 2008
8.25
5 June 2003 5.25
6 March 2008
8.25
24 July 2003 5.00
24 April 2008
8.25
4 September 2003 5.00
38
5.00
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
Appendix E
Upcoming Reserve Bank Monetary Policy Statements and
Official Cash Rate release dates
The following is the Reserve Bank’s schedule for the release of Monetary Policy Statements and Official Cash Rate
announcements for 2008:
24 July 2008
OCR announcement
11 September 2008
Monetary Policy Statement
23 October 2008
OCR announcement
4 December 2008
Monetary Policy Statement
The announcement will be made at 9:00 am on the day concerned. Please note that the Reserve Bank reserves the right
to make changes, if required due to unexpected developments. In that unlikely event, the markets and the media would be
given as much warning as possible.
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
39
Appendix F
Policy Targets Agreement
This agreement between the Minister of Finance and the Governor of the Reserve Bank of New Zealand (the Bank) is made
under section 9 of the Reserve Bank of New Zealand Act 1989 (the Act). The Minister and the Governor agree as follows:
1. Price stability
a) Under Section 8 of the Act the Reserve Bank is required to conduct monetary policy with the goal of maintaining a stable
general level of prices.
b) The objective of the Government’s economic policy is to promote sustainable and balanced economic development in
order to create full employment, higher real incomes and a more equitable distribution of incomes. Price stability plays
an important part in supporting the achievement of wider economic and social objectives.
2. Policy target
a) In pursuing the objective of a stable general level of prices, the Bank shall monitor prices as measured by a range of price
indices. The price stability target will be defined in terms of the All Groups Consumers Price Index (CPI), as published by
Statistics New Zealand.
b) For the purpose of this agreement, the policy target shall be to keep future CPI inflation outcomes between 1 percent
and 3 percent on average over the medium term.
3. Inflation variations around target
a) For a variety of reasons, the actual annual rate of CPI inflation will vary around the medium-term trend of inflation, which
is the focus of the policy target. Amongst these reasons, there is a range of events whose impact would normally be
temporary. Such events include, for example, shifts in the aggregate price level as a result of exceptional movements in
the prices of commodities traded in world markets, changes in indirect taxes, significant government policy changes that
directly affect prices, or a natural disaster affecting a major part of the economy.
b) When disturbances of the kind described in clause 3(a) arise, the Bank will respond consistent with meeting its mediumterm target.
40
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
4. Communication, implementation and accountability
a) On occasions when the annual rate of inflation is outside the medium-term target range, or when such occasions
are projected, the Bank shall explain in Policy Statements made under section 15 of the Act why such outcomes have
occurred, or are projected to occur, and what measures it has taken, or proposes to take, to ensure that inflation
outcomes remain consistent with the medium-term target.
b) In pursuing its price stability objective, the Bank shall implement monetary policy in a sustainable, consistent and
transparent manner and shall seek to avoid unnecessary instability in output, interest rates and the exchange rate.
c) The Bank shall be fully accountable for its judgements and actions in implementing monetary policy.
Hon Dr Michael Cullen
Dr Alan E Bollard
Minister of Finance
Governor
Reserve Bank of New Zealand
Dated at Wellington this 24th day of May 2007
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008
41
42
Reserve Bank of New Zealand: Monetary Policy Statement, June 2008