Bollard warns house prices likely to fall

Reserve Bank Governor Alan Bollard

Reserve Bank Governor Alan Bollard today issued a severe warning of imbalances and "significant excesses" developing in the economy.

In a speech delivered in Rotorua to the Credit and Finance Institute, Dr Bollard warned the uptrend in house prices "would not be sustained". An outright fall in house prices was likely.

And in a warning to the incoming Government, Dr Bollard said plans to spend more had the potential to worsen economic imbalances, "at the margin".


Finance Minister Michael Cullen welcomed  the Governor's harsh comments. He said Allan Bollard's comments about unsustainable levels of borrowing and spending were timely.


Dr Cullen said they reflect what he has been saying for months about the need for a firm fiscal stance, in the face of a large current account deficit and inflationary pressures.


He said it is clear the major priorities for the new Government will include an improvement in the savings rate, a lift in productivity and increased exports.


A more expansionary fiscal stance had the potential to worsen New Zealand's current account problem. That would make it harder for monetary policy to contain inflation harder. The latter was a broad hint he would respond to higher Government spending by hiking interest rates.

"These pressures will need to be borne in mind as the incoming government considers its fiscal options," he said. He also said the exchange rate "appeared to have reached an unsustainable level".

Dr Bollard said there would be a "correction" to the imbalances but the "adjustment process may not be painless".

The bank would not stand in the way of an exchange rate adjustment "accepting that a short-term boost to tradables inflation may be an unavoidable consequence of adjustment".

Dr Bollard said very strong household spending was a common factor in the widening current account deficit and inflation pressures facing the economy.

The task of maintaining inflation in the 1-3 per cent target band was particularly challenging because of household spending, oil price rises and the prospect of a more expansionary fiscal policy.

CPI data on Monday is expected to show inflation in the September year has climbed well above the 3 per cent ceiling.

Dr Bollard is expected to respond by hiking interest rates again at the next rate review on October 27.

Dr Bollard said the current account deficit, now at 8 per cent of GDP, was exacerbated by strong domestic demand and the high level of spending from the strong exchange rate.

He said the sustained expansion of the past four years was obviously pleasing but "we have also seen some significant 'excesses' develop in the economy".

Production resources were stretched, resulting in ongoing inflation pressures and widening the current account deficit.

The common factor driving these two was the growth in household spending, much of it debt financed.

He noted many households had "unlocked" equity in their homes as values had skyrocketed but households had not actually saved anything out of current income and instead had recently "dis-saved" around 12 per cent of income per year.

"New Zealand households stand out as having the worst savings record in the OECD area."

House prices were very cyclical and many people had unrealistic expectations, he said.

In a message aimed at bringing the dollar down, Dr Bollard said overseas investors "should also consider the downside scenario when making their investment decisions".

He said the "correction", when it came would involve some combination of a cut in spending and a switch from imports to locally produced goods.

- NZPA