Economists re-examine Orr’s Reserve Bank

There appears to be a change in behaviour from the Reserve Bank since the new governor Adrian Orr took office. Economists are looking at the central bank with new eyes. Business editor Dene Mackenzie reports on what economists are finding.

Stephen Toplis
Stephen Toplis
Westpac economists have pushed out their forecast for a lift in the official cash rate (OCR) from November next year to May 2020.

Previously, the economists predicted the OCR would stay at 1.75% until November next year and would rise slowly after that.

While still picking a slow rise, Westpac has pushed out its first rise by six months.

Chief economist Dominick Stephens said the change had nothing to do with the state of the economy.

An economic slowdown had taken businesses, markets, the Reserve Bank and the Treasury by surprise.

"From our perspective, the slowdown is no surprise. In November last year, we forecast annual GDP growth in 2018 of 2.4%.

"At that time, we predicted the Reserve Bank would become more dovish when it inevitably downgraded its overly-optimistic GDP forecasts. This is all broadly proceeding as anticipated."

The OCR call change was only lightly related to the evolving outlook for inflation, he said.

It looked as though the forces restraining tradeables inflation were set to persist longer than previously expected.

Although wage pressures were clearly emerging, Westpac was forecasting for inflation in 2019 to be just 1.4%. Inflation was only a minor element of the change of OCR call, Mr Stephens said.

The main reason for the change was what appeared to be a change in the central bank’s behaviour since Adrian Orr became governor.

The Reserve Bank had consistently surprised on the dovish side recently, especially at last week’s Monetary Policy Statement.

Communications had made it clear the Reserve Bank was now actively considering OCR reductions and was less inclined towards hikes.

The bluntest comment came from assistant governor John McDermott on Thursday when he said: "We’ve been pushed nearly to that trigger point" of cutting rates.

It was a marked change from earlier this year when the OCR bias was neutral-to-higher, Mr Stephens said.

"While we think OCR cuts are most likely to be averted, we must emphasise once again they are a genuine risk. As we have been saying since February, a downward move in the OCR this year is more likely than an upward move."

The main risk to bringing about an OCR cut was the housing market,  he said.

The foreign buyer ban was about to come into force and it was unknown  how it would affect the market.

The expectation was for nationwide annual house price inflation to drop to about zero by the end of the year.

If the foreign buyer ban created a greater down draught in prices, the situation could change.

The other risk in favour of cuts was the labour market, Mr Stephens said.

Unemployment was expected to rise to 4.7% in a lagged response to the recent economic slowdown.

Westpac had been warning the Reserve Bank, the Treasury and financial markets were going to have to adjust their forecasts of growth and the OCR.

Last week, the Reserve Bank went further than even Mr Stephens was expecting.

"This leaves us less convinced the Reserve Bank could hike next year and more convinced there is a risk of OCR cuts over the coming year."

ASB chief economist Nick Tuffley said all benchmark interest rates had fallen in recent months.

The five-year swap rate had fallen 30 basis points since mid-May. Shorter-term rates such as the 90-day bank bill and one-year swap rates had fallen by 14 and 12 basis points respectively.

Short-term interest rates had eased as markets were increasingly flirting with the possibility the Reserve Bank might cut the OCR, he said.

In addition, easing credit market pressures had contributed to recent short-term interest rate falls.

"We don’t expect the Reserve Bank to cut the OCR but we expect it to remain on hold in 2018 and most of 2019."

The ASB expected New Zealand benchmark interest rates would remain near record lows over the remainder of the year and a chance they might go lower, Mr Tuffley said.

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