As Canada and the EU cross the interest rate cut finish line, how far behind is New Zealand?
Liam Dann is business editor-at-large for the New Zealand Herald. He is a senior writer and columnist, and also presents and produces videos and podcasts. He joined the Herald in 2003.
OPINION
Welcome to Inside Economics. Every week, I take a deeper dive into some of the more left-field
Q: I see in the news that both Canada and the European Union have started cutting interest rates. Yet the Reserve Bank is suggesting New Zealand rates will be on hold until September 2025. How can we be so far behind?
– L. Burgess
A: I guess the real question is, why has inflation been more stubborn in New Zealand? When it comes to monetary policy, our central bank was one of the first in the world to start hiking interest rates (in October 2021) and has lifted them to higher levels than most other comparable countries.
The Reserve Bank (RBNZ) could have moved in August 2021 and we might be closer to the end of this cycle. It may be that the quantitative easing (money printing) part of the stimulus had an outsized effect on our small economy. It was certainly new territory.
But broadly speaking, our monetary policy followed the same path as the rest of the world. And we shouldn’t forget that it prevented a calamitous local and global economic collapse as governments closed borders and locked down their populations.
There are questions about the pace at which New Zealand reopened to the world and the length of that last lockdown in Auckland. These choices meant more economic stimulus was needed for longer. But the balance of those equations is measured in relative death tolls – so the economic arguments get pretty ugly, pretty fast.
There is certainly a strong argument that fiscal policy – Government spending – should have been adjusted far sooner. Putting aside the divisive pandemic policy debate, the Government had 2022 and 2023 to get on board with the RBNZ’s rebalancing efforts.
That point has been made loud and clear by the new coalition Government. Policies like cost-of-living payments and fuel subsidies might have seemed kind but actually just added to inflation and extended the painful cycle we are going through.
Choices were made, by the last Government, to go through this rebalancing process at a gentle pace. It paid for those choices at the polls last year.
Unfortunately, political choices continue to have an influence. As mentioned last week, economists fear upcoming tax adjustments are badly timed and will make the Reserve Bank’s job harder.
Other factors might contribute to higher inflation in New Zealand. These include our isolation making us more vulnerable to higher transport and freight costs, weather events that spiked fresh food prices and lack of competition putting less pressure on big players in some industries to get prices back down.
But those things are part and parcel of managing inflation in New Zealand. In the end, the buck has to stop with the Government and the Reserve Bank.
We do need to be careful not to catastrophise our own position relative to the rest of the world. We have a bad habit in this country of thinking our circumstances are special – when they aren’t.
You’ve only got to read a few business sections in the US, UK and Australia to realise that our position is more or less the same as theirs.
Broadly speaking, it’s good news that the first major central banks – in Canada and Europe – have started cutting interest rates. Switzerland and Sweden have also recently cut rates (although the Swiss never had an inflation problem and the Swedes were happy to cut with it still sitting at 3.9 per cent).
Moves by the Bank of Canada (BoC) and the European Central Bank (ECB) have been heralded in the past week as a reminder that monetary policy works.
Adam Posen, President of the Peterson Institute for International Economics, writing in the Financial Times, says success in quelling post-Covid inflation has parallels to the “end of history” argument made about liberal democracy after the fall of the Berlin Wall in 1989... ie “there really are no credible alternative monetary regimes”, he says.
“Independent central banks and low and transparent inflation targets are a killer combination. That is why all large economies – with the exception of China – and the vast majority of high- and middle-income economies have adopted it.”
Posen pushes back against the inevitable hand-wringing over why the US and UK are still waiting.
At first glance, New Zealand looks a long way back in the pack. The Reserve Bank says we might be waiting until September 2025 for rate cuts.
No one seems to believe that. The RBNZ’s tough Monetary Policy Statement killed off any expectations of cuts in August. Money markets still have good odds on a cut by November and the consensus of economists opinion sees the first cut coming in February.
We get a fresh statement from the US Federal Reserve later this week but expectations in the US are that we’ll only see one cut this year now. So are we actually that far behind?
Posen’s point is that we shouldn’t be surprised that there are a few months of difference between countries waiting for inflation to land. We should instead celebrate that monetary policy has delivered, despite the myriad of economic differences between all these economies.
He makes the point that it is working against everywhere – except for Turkey and India, where autocratic leaders have pressured central banks to cut rates (with terrible results).
“We shouldn’t lose sight of the bigger picture in monetary policy. The more we look at how similar interest rate policies have applied to very different economies, the more we should wonder at the similarity of the outcomes,” Posen says.
France goes to the polls later this month after President Emmanuel Macron’s centrist alliance was rocked in European parliamentary elections over the weekend, while hard-right parties surged.
One of the issues for Macron is the weak economy – low economic growth and high inflation (sounds familiar). The French Government is also struggling with high debt that puts New Zealand in the shade. Its debt-to-GDP ratio topped 110 per cent in 2023 and is still getting worse.
It recently had its credit rating downgraded to AA- by the international agency S&P.
In New Zealand, we’ve heard a lot of concern about the Crown debt-to-GDP ratio topping 40 per cent. The Government has committed to getting it back to between 20 and 40 per cent.
There are some reasons we need to worry more about Crown debt than other countries. Our private debt situation is horrible and New Zealand is small and vulnerable to big global shocks.
But regardless, our credit rating is a much healthier AA+. That’s on par with the US and Taiwan, one notch above the UK (AA) and two notches above France.
Our strong credit rating is a reminder of just how little international financial markets care about New Zealand’s political battles and the micro-details of our inflation fight.
Okay, it would be nice to be sitting a notch higher at AAA like Australia. But a few per cent tighter on the Crown debt to GDP ratio won’t solve that.
To get to AAA would require addressing concerns rating agencies have with our private debt (and precarious housing market) and our relative lack of savings. Too bad neither major party is prepared to do that.
Reader Andy Drain asks about how the composite tax rate will apply this year, in light of the July 31 bracket adjustments.
“One of the complications of a mid-tax year change in tax bands appears to be the need for the IRD to have a composite tax rate for this tax year.
“As far as I can see, if you had zero income prior to the July 31 tax band change and then all your income came after that date, you would still end up paying the composite rate for the year and NOT the new rates that the Government has set.”
I’m no tax expert so I asked Craig Eliffe, University of Auckland Professor of Tax Law, for some advice:
“The composite rates work on the average income earned over the year. So it does mean that income earned after the change in tax rate will be taxed at the composite rate rather than the new rate,” Eliffe says.
“The income tax rules use a period of a year in order to measure income (normally, although there are a few exceptions with group company loss offsets). The average makes sense when you think of the difficulty of measuring trading income with trading stock and the need for an annual stocktake (although many modern accounting systems keep accurate inventory in real time).
“On the positive side to your correspondent’s question, income earned prior to the change will also enjoy the composite rate.”
I hope that helps!
Last week’s item about the big oil price slump might have had a bit of a commentator’s curse to it. Oil has since bounced back a bit. But it is still down about 10 per cent for the quarter and the New Zealand dollar is up (against the US) by about 4 per cent. So I reckon there is still room for more easing of prices at the pump.
The Commerce Commission seems to agree. This week it put out an analysis suggesting retailers are quick to put prices up in response to increased costs but slow when it comes to bringing prices down when oil prices fall or the exchange rate changes.
It argued the delays cost motorists about $15 million a year – not a huge figure in the context of total fuel consumption, to be fair.
But it was a well-timed release from the commission which reminded us it will be watching very closely from July 1 when the regional fuel tax is removed and the cost of fuel delivered to the Auckland region should drop by 11.5 cents per litre.
There’s not too much to recap from the past week but there is plenty to preview. The heavyweight of economic stats – GDP – lands next Thursday, to tell us whether we’re still in recession or not. Either way, it’s going to be marginal. We probably are. You don’t need a weatherman to know which way the wind blows, as Bob Dylan once sang. It’s tough out there. We’ll publish a full GDP preview on Monday.
Other data in the next week will help paint a more fulsome picture of what’s going on in the economy.
Later today we’ll see whether immigration is holding up at near-record levels or falling back to more normal rates.
On Thursday we’ll see a full set of electronic card transaction data for May. ANZ’s data for its own card use – out on Monday – was pretty downbeat. It suggested that Kiwis have stopped spending on home renovation, durables and almost anything to do with housing.
“The only category in the housing group that is up more than negligibly year-on-year is ‘glass, paint and wallpaper’, suggesting cheap spruce-ups may be standing in for expensive renovations,” said ANZ chief economist Sharon Zollner.
On Friday we get more insight into the inflation battle with food, rent and travel price data out – part of Stats NZ’s monthly Selected Price Indexes.
They represent about 45 per cent of the total Consumer Price Index inflation so might deliver some more clues as to how likely rate cuts are by February.
Meanwhile, global financial markets will all be focused on US inflation data and that update of interest rates from the US Federal Reserve – both due early Thursday morning.
As well as GDP next week, we’ll also get the balance of trade on Wednesday, which will update the size of New Zealand’s current account deficit for the year to March 31. Hopefully, it has continued to fall as a percentage of GDP. It ended up at a worrying peak of 8.8 per cent in December 2022, largely due to a lack of export receipts from tourism. As at December 2023, it was down to 6.9 per cent. That’s still too big.
If you have a burning question about the quirks or intricacies of economics, send it to liam.dann@nzherald.co.nz... or leave a message in the comments section. He’ll try to answer in Inside Economics, a new column published every Wednesday.
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