Editorial: Why OCR cuts don't work anymore

Reserve Bank of NZ Governor Adrian Orr during a press conference. File photo / Mark Mitchell

Editorial

EDITORIAL

It's a good time to have a mortgage. Interest rates have never been lower. But that's hardly something to celebrate.

Low rates are probably the only thing keeping many borrowers afloat right now.

It's hard to imagine a world with an Official Cash Rate at 8.25 per cent and floating mortgage rates above 10 per cent.

Those kind of numbers would be disastrous for many heavily leveraged home owners, farmers and businesses. That's where we were in June 2008 when the Global Financial Crisis hit.

Less than a year later - by April 2009 - the official cash rate had been slashed to 2.5 per cent. The drop of nearly 6 percentage points provided a dramatic stimulatory boost which put significant amounts of cash in the pockets of borrowers as their fixed rates rolled off.

Back then, monetary policy provided a safety net for the economy.

Will we see tax cuts on the table? It seems an unlikely, and certainly unpalatable, option for a centre-left Government.

If something similar to the GFC unfolded today (and with sharemarkets teetering at great heights there's every chance) what would we do?

Attempts to return rates to normal levels have failed - there is no safety net there now. Monetary policy has lost its power.

On Wednesday, the Reserve Bank is expected to make its second rate cut this year in an attempt to head-off what is still a relatively mild economic slowdown.

The official cash rate will go to 1.25 per cent. Deposit rates will fall, the sharemarket will get a boost and the dollar may drop. But borrowers will not expect to see much benefit.

Bank margins are much thinner now and much less of the cut will be passed on. Much of it is priced in already and expectations are already mounting for at least one more cut in November.

In fact, some economists are already picking that the Reserve Bank will have to take the rate to 0.75 per cent this year, just to keep New Zealand in the game.

So where does that leave us?

The Reserve Bank, like central banks around the world, is investigating less conventional policies, such as quantitative easing (effectively printing money) or negative interest rates.

Monetary policy has lost its power. Photo / Getty Images

But really it puts the onus for economic stimulus squarely on the Government's shoulders. If the downturn gets serious, we are going to need to see a response from the Government and we are going to need to see it quickly.

The Crown accounts are in good shape, there is money in the bank but deploying it in a meaningful way is not easy. This Government has struggled to spend the new money it has allocated in the first half of its term.

There is still some expectation that it may yet flow through the economy in the next year giving us a timely boost. But as the global economic outlook turns darker, will it be enough?

Propping up the economy with big infrastructure projects which will pay-off in the longer term is logical but very slow.

Will we see tax cuts on the table? It seems an unlikely, and certainly unpalatable, option for a centre-left Government.

But the dilemma is getting very real and some creative thinking is required.