Double rate rise on way

By BRIAN FALLOW


The chances that the Reserve Bank will raise interest rates this month and again in December have increased after the Institute of Economic Research's business survey found almost no sign of the economy's long-forecast slowdown.

Firms' views of the general outlook over the next six months have improved, defying rising interest rates, a higher dollar and soaring oil prices.

More tellingly, what the businesses say about their own activity suggests the economy grew just as quickly in the September quarter as it did in June.

The institute said responses to questions about staff levels, overtime, new orders, output and sales painted a picture of an economy growing strongly.

The cloud accompanying that silver lining is that inflation pressures have mounted.

And the difficulty of finding suitable workers intensified.

"One firm in two reports difficulty in finding skilled labour and one in three finds even unskilled labour hard to come by," said institute economist Doug Steel.

That suggested wages growth would accelerate to 4 or 5 per cent over the next 18 months or two years.

The proportion of firms - 22 per cent - citing labour as the one factor most limiting their ability to increase turnover is at very high level.

Meanwhile firms' capacity use - a measure of how hard they are running their plant and machinery - is the highest it has been since 1961, when the survey began.

The Reserve Bank watches this measure closely, as the less slack there is in the economy the more likely firms are to raise their prices.

A net 25 per cent of firms increased prices over the past three months and a net 34 per cent say they intend to over the next quarter.

These figures are almost unchanged from the June survey.

Even more firms report higher costs. A net 39 per cent say costs rose in the past three months and a net 40 per cent expect rising costs in the next three months.

Steel said those figures were consistent with inflation rising to around 3 per cent - the top of the Reserve Bank's target band - in the first half of next year.

"There is little in this survey to suggest inflationary pressure is abating," he said. "It increases the probability of a further increase [in interest rates] in December."

Market economists polled by Reuters yesterday were unanimous in their belief that the bank would raise the official cash rate from 6.25 to 6.5 per cent at its next review on October 28.

But they saw only a 40 per cent chance of a further increase in December. Only three of the 11 forecasters - from the Bank of New Zealand, ASB Bank and Westpac - considered the bank more likely than not to go again before Christmas.

Deutsche Bank chief economist Ulf Schoefisch said yesterday's figures contained some signs of limited pricing power - the ability to pass on increased costs to the consumer - which would give the Reserve Bank some comfort.

Not all the businesses which said in June that they intended to increase prices did so.

And only a comparatively small net 6 per cent increased prices in the June quarter.

Schoefisch said business as a whole was unable to recover the full amount of cost increases in the latest quarter, and a net 6 per cent of firms reported a drop in their profitability.

The decline was most marked among merchants.

Steel said the decline in profitability was perhaps a pointer to a coming slowdown, although it remained above the average over the past 10 years.

"Another warning sign is a noticeable drop, from a net 30 per cent to a net 14 per cent, in service sector firms reporting an increase in sales volumes.

"As services make up about two-thirds of the economy that could be an early sign of slowing growth."

Much of the decrease was in financial services.