IMF cuts NZ growth forecast

New Zealand is expected to grow less than any other advanced economy except Portugal this year, despite a buoyant world economy.

The International Monetary Fund's latest World Economic Outlook has slashed the forecast for New Zealand's economic growth in 2006 to 0.9 per cent from the 2.5 per cent expected last September.

It said a high exchange rate had hurt exports and now there were signs that domestic demand was beginning to slow and the housing market was cooling.

A wait-and-see approach to further monetary tightening was appropriate, given the slowdown in activity and the associated decline in inflation risks.

In Australia, by contrast, growth is expected to pick up to 2.9 per cent this year as investment strengthens in response to capacity constraints and high commodity prices.

The IMF is bullish about the world economy's prospects too.

It forecasts world output to grow 4.9 per cent this year, up from 4.8 per cent last year and 0.6 percentage points better than it thought last September.

It said two-thirds of that upward revision reflected the buoyancy of activity in China, India and Russia.

The United States, expected to grow 3.4 per cent this year, remains the main engine of growth, while Japan's expansion is now well established and the euro area is showing signs of a more sustained recovery.

"To date, the impact of higher oil prices on the world economy has been more moderate than generally expected, in part because inflationary expectations have remained well-anchored," the IMF said.

But the full effects of higher oil prices might not have been felt yet, especially if producers and consumers were still treating it as temporary.

"With excess capacity still low, the market remains vulnerable to shocks."

One consequence of soaring oil prices has been a widening of the US's current account deficit, which the IMF expects to stay around 6.5 per cent of GDP for the next couple of years (New Zealand's is nearly 9 per cent). The corresponding surpluses are being run by China, Japan and the oil exporting countries.

The IMF said a purely market-driven adjustment to that large imbalance in the global economy would succeed only if foreigners were willing to increase their net holdings of US assets substantially in the face of substantial capital losses from future US dollar depreciation and if protectionist pressures could be held in check.

"If not, there is a risk of a much more abrupt and disorderly adjustment accompanied by substantial exchange rate overshooting, a large increase in interest rates and a sharp slowdown in growth worldwide."

Deutsche Bank chief economist Darren Gibbs said that at some point the US economy would have to go through the same sort of adjustment New Zealand was going through now.

"I agree that the prospects for world growth for the next year or so do look good. But the question is how much inflation is lurking around the corner. If we do see more inflation globally and central banks are forced to tighten more, then that opens the possibility that housing markets will correct in a less benign way."

He said a housing market and consumer spending downturn in the US would be felt throughout the world.

The IMF said short-term global interest rates would rise further over the next two years and long-term rates were likely to as well.

'The greatest risk appears to be in the household sector, especially in countries where housing markets are elevated, especially since recent house price slowdowns have led to a noticeable slowing in private consumption and residential investment."