by Nick Clark, National Group Manager General Policy
OCR rises resume
After a three month hiatus, the Reserve Bank this week reviewed monetary policy settings, increasing the Official Cash Rate by 25 basis points to 1.00%.
This wasn’t a surprise. A zero increase was never an option given high inflation. The only realistic alternative to a 25 point increase was a more aggressive 50 point increase. 50 points was certainly a possibility and it would not have been a total surprise, but 25 points was more likely.
What was more interesting was the statement’s shift to a hawkish tone. The Reserve Bank has woken to the need to get the inflation genie back in the bottle. It was open in saying it seriously considered a 50 point hike.
In favour of 25 points was the Reserve Bank saying last year it would prefer to move in steady increments rather than big moves; Omicron will negatively impact economic growth and potentially employment; and credit conditions are already much tighter than last year causing a correction in the housing market.
Arguments in favour of a 50 point increase include inflation is higher and unemployment lower than previously forecast; cost pressures remain acute and Omicron will add to them; the exchange rate has fallen (despite record high commodity prices) which will add to imported inflation; and inflation expectations have ticked up, requiring the Reserve Bank to burnish its inflation fighting credibility.
A 50 point increase could yet happen at a future review.
How high could the OCR get? The Reserve Bank’s forecasts suggest the OCR could be around 2.25% by the end of this year, implying five more 25 point increases this year. It also thinks there will be further increases in 2023 with it forecasting a ‘terminal rate’ around 3.35%.
What does this mean for mortgages? The markets had already priced in a series of OCR increases so yesterday’s announcement shouldn’t dramatically increase retail interest rates unless the markets had under or over-estimated the Reserve Bank’s forward intentions.
The Reserve Bank expects annual consumer price inflation to rise further to 6.6% in the current March 2022 quarter and stay high at 6.3% in the June quarter. However, it expects inflation to then ease back to 3.2% in March 2023 and ease back below 3% and hover around 2 to 2.5% thereafter.
The Reserve Bank also decided to reduce its $55 billion holding of assets built up after its programme of Large Scale Asset Purchase (LASP) in 2020 and 2021. It will not reinvest the proceeds of any upcoming LSAP bond maturities and from July 2022 it will sell New Zealand Government Bonds at a rate of $5 billion per fiscal year. The bonds will be sold to the Government’s Debt Management Office. This should have the effect of quantitative tightening and should take some pressure off the OCR as monetary policy is normalised.
The next review will be on 13 April. Expect a further 25 point increase in the OCR. If there is to be a 50 point hike, it is more likely to happen at its 25 May review.
Producer prices increase
Producer prices increased strongly in the year ended December 2021 taking annual growth in both output and input prices to 13 year high.
Statistics NZ’s quarterly Business Price Indexes showed the Producer Price Index for Outputs (prices received by businesses) was up 1.4% compared to the September quarter to be up 7.2% for the year. This was the highest annual increase in output prices since the year to December 2008.
On a quarterly basis output prices for petroleum and coal product manufacturing were up 7.2% to be up 54.9% for the year. On the other hand, electricity and gas supply output prices were down 17.6% for the quarter and down 6.7% for the year.
Strong international commodity prices continued flowing through to farm incomes. Output prices for agriculture, forestry, and fishing strengthened further, up 4.3% for the quarter to be up 16.3% for the year. Output prices for sheep, beef, and grains farming were up 4.3% for the quarter (and up 23.2% for the year) while those for dairy farming were up 9.2% for the quarter (and up 27.0% for the year).
Turning to prices paid by businesses, the Producer Price Index for Inputs was up 1.1% for the quarter and up 8.1% for the year. This was also the highest annual increase in input prices since the year to December 2008.
The industry with the biggest increase in input prices was dairy product manufacturing which up 7.7% for the quarter and 23.2% for the year, while meat and meat product manufacturing was up 3.0% for the quarter and 19.0% for the year. Both reflect higher prices these manufacturers pay farmers for their produce. Petroleum and coal product manufacturing had an increase of 4.1% to be up 51.8% for the year, reflecting higher international oil prices. Input prices for electricity and gas supply were down 20.8% for the quarter and down 9.4% for the year.
For farmers, some of the gloss of higher farmgate prices is being eroded by higher costs of production. Input prices for agriculture, forestry and fishing were up 2.3% for the quarter and up 8.1% for the year. Sheep, beef, and grains farmers’ input prices were up 2.7% for the quarter and up 8.2% for the year while those for dairy farmers were up 2.4% for the quarter and up 10.0% for the year.
Farm expenses up
The same data release showed a 2.7% increase in the Farm Expenses Price Index (FEPI) for the December 2021 quarter compared to the September 2021 quarter. This is the largest quarterly increase since the June 2008 quarter.
Compared to the September quarter, there were hefty rises for fuel (up 11.0%); fertiliser, lime, and seeds (up 7.6%); dairy shed expenses (up 7.4%); and weed and pest control (up 6.3%). Interest rates reversed a long run of declines, jumping 5.3% in the quarter. The one input price to decline was electricity, down 17.3%.
On an annual basis, farm expense prices were up 7.0% compared to December 2020. Prices were down for electricity (down 4.8%) but all other inputs rose. The largest annual increases were for fuel (up 44.4%) and fertiliser, lime, and seeds (up 22.5%). There were a lot of expenses that increased between 5% and 10%, indicating that cost pressures are widespread.
The 7.0% annual increase in the FEPI is the largest since a 7.9% increase in the year to June 2008.
Farmers are getting more concerned about input prices but for now at least that concern has been tempered by the high prices they’re receiving.
War in Ukraine
As well as tragic loss of life and damage, Russia’s invasion of Ukraine and the international response will have profound economic impacts beyond immediate slumps in financial markets.
Neither Russia nor Ukraine are significant trading partners for New Zealand but impacts will be felt here, most obviously from increases in international energy prices with Russia a big producer and exporter of oil and gas. Both Russia and Ukraine are also significant producers and exporters of wheat.
The immediate implications of the conflict will be higher inflation, lower growth, and disruption to financial markets as sanctions take hold. The longer-term fallout will be a further fracturing of globalisation including the system of supply chains and integrated financial markets.
NIWA Soil Moisture Data
NIWA’s latest soil moisture maps (as at 9am Thursday 24 February) show the ongoing effect of February’s big wet. Most of the country’s soils continue to be significantly wetter than usual for this time of year, although Northland, Auckland, and North Waikato are becoming drier. Southland continues to be the exception with its soils continuing to be significantly drier than usual.
The NZ Dollar was stronger this week, up 1.0% against the Trade Weighted Index. It was up against all our major trading partners.
Source: Reserve Bank of NZ
Wholesale Interest Rates
Over the course of the week, the yield for the 90 Day Bank Bill was up 1 point to 1.24% while the 10 year Government Bond yield was unchanged on 2.84%.
The Reserve Bank will next review monetary policy settings (including the OCR) on 13 April 2022. Another increase is highly likely.
|This Week (24/2/22)||Last Week (17/2/22)||Last Month (24/1/22)||Last Year (24/2/21)|
|90 Day Bank Bill||1.24%||1.23%||1.07%||0.28%|
|10 Year Government Bond||2.84%||2.84%||2.55%||1.63%|
Source: Reserve Bank of NZ