Rising prices to offset October tax cuts

The Institute of Economic Research estimates around half of all households will end the year worse off than they were a year earlier as rising food prices, the GST increase and other one-off charges more than offset personal tax cuts.

Its principal economist, Shamubeel Eaqub, expects food price inflation to hit 10 per cent by year end, reflecting higher commodity prices on world markets.

"Higher world prices are good for farmers but for the rest of us they kind of suck," he said.

Higher prices for essentials such as food tend to crowd out spending on discretionary items.

Until employment picks up strongly, something the institute thinks is a year away, household spending will remain subdued, it says in a downbeat set of quarterly economic forecasts.

Spending in real per capita terms fell sharply during the recession and had improved only modestly since the recovery began, Eaqub said.

History indicated real per capita spending could stagnate for up to five years, especially if house prices were weak.

During the boom households boosted their spending power by withdrawing around $5000 a year in housing equity.

That has flipped to the point that they are saving or paying down debt by around $1500 a year - effectively reducing spending power by by more than 10 per cent.

That is only part of the picture of a faltering recovery that the institute paints.

It also points to fading net immigration, slowing house sales, flagging indicators of activity in manufacturing and services, stagnant credit growth and souring confidence.

The National Bank's monthly survey recorded a further drop in business sentiment in August, including weaker hiring and investment intentions.

Overall the institute sees the economy experiencing a weak patch late this year and early next year - though not so weak as to slip back into recession - before robust growth resumes in the middle of 2011.

In the construction sector Eaqub pointed to a drop of a third in non-residential consents (as measured by floor area), while residential building faces an environment of feeble growth in household borrowing combined with weak sales and easing prices in the market for existing properties.

Feedback from the construction sector endorsed this downbeat view, Eaqub said yesterday.

Meanwhile strength in the export sector was focused in dairy, forestry and oil shipments and even they were flattening off in volume terms, he said.

"The recent loss of momentum in global demand is a risk factor and may slow export growth in 2011."

Growth forecasts for the United States were being revised down, China was reducing lending and in Europe concerns about excessive debt remained, he said.