Requirements will lift borrowing costs

Proposed minimum capital requirements on banks will increase borrowing costs for New Zealand...
Proposed minimum capital requirements on banks will increase borrowing costs for New Zealand households and businesses. Photo: Getty Images
The Reserve Bank is being picked to acknowledge the increasing negative risks to New Zealand’s economy this week, but not to yet make a move on monetary policy.

While picking moves of the interest-driving official cash rate will be pushed out further, ASB is looking closely at the effects of proposed minimum capital requirements on banks, and the likelihood of increased borrowing costs for households and businesses.

The Reserve Bank is scheduled to release its monetary policy statement on Wednesday.

ASB chief economist Nick Tuffley said he expected the Reserve Bank to either leave the official cash rate (OCR) forecast unchanged, or for the timing of forecast OCR hikes to be pushed out slightly.

The OCR remains at an all-time 1.75% low and most economists expect it will not be changed until mid-to-late 2020.

Mr Tuffley said he now expected the OCR would not rise until 2021, and it would only take 50 basis points of OCR increases to return borrowing rates to "neutral".

"Interest rates are currently very low and stimulating the economy," he said in an update.

Last Friday, the Reserve Bank of Australia  dramatically revised down its economic forecasts, amid the ongoing property market correction, cutting both inflation and gross domestic product (GDP) forecasts.

The RBA last week kept the cash rate at a record low 1.5% for a 30th month but dropped its longstanding prediction that an improving economy meant the next move was likely to be upwards, AAP reported.

Mr Tuffley said the Reserve Bank here would continue to want to reduce the stimulus over time, as economic spare capacity reduced and inflation pressures lifted back to the bank’s inflation target mid-point, between 1% and 3%.

Mr Tuffley focused on the Reserve Bank’s "very significant" announcement at the end of last year,  of its intention to "substantially increase" the minimum amount of capital banks must hold.

"The proposed changes will have a significant impact on the banking environment," he said.

For interest rates, the main implication of these changes was that the cost of funds for banks would increase and that the banks would pass on a portion of the higher cost of funds.

"For most readers, talking about the down side risks to the OCR can be misleading, as we continue to expect that retail interest rates and borrowing costs for New Zealand households and businesses will increase over 2021 and 2022," he said.

He said a significant part of this increase was now likely to come through the proposed increased bank funding costs and the OCR would do less of the lifting.

"Our key message is that we continue to expect borrowing rates to rise gradually in coming years," he said.

Mr Tuffley reiterated another of the Reserve Bank’s key concerns in the November policy statement: the deteriorating global backdrop and escalating trade tensions impacting on New Zealand export incomes.

"Here the down side [negative] risks appear to have increased," he said.

Recent economic data suggested the United States-China trade tensions were having a greater impact on Chinese growth than expected, the Eurozone had lost momentum, and there was the prolonged US government shutdown.

"These are hardly reassuring for the global growth outlook. Even the US Federal Reserve has become less confident on the economic outlook, shifting away from its tightening basis in recent weeks," Mr Tuffley said.

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