OPINION
Welcome to Inside Economics. Every week, I take a deeper dive into some of the more left-field economic news you may have missed. To sign up to my weekly newsletter, click here. 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.
Today we get one of the most highly anticipated Official Cash Rate calls in years. At 2pm the RBNZ will release its October Monetary Policy Review (MPR) and there’ll be no shortage of homeowners and business people hoping for significant relief.
The MPR is different to the full Monetary Policy Statement we got in August. It means we’ll just get a one-page release with no press conference and no fresh forecasts. But you can still bet that every word of the release will be pored over for clues to the outlook.
A 25 basis point rate cut is almost certainly baked in. But will Governor Adrian Orr and the monetary policy committee double down and deliver 50 basis points?
The local bank economists have all picked that he will, but they’ve all added that it is a close call. So it’s far from a done deal.
In the end, it will come down to an RBNZ judgment on just how grim the economy really is right now. Some commentators - like Greg Smith from Devon Funds Management - have even suggested that a 75 basis point cut might be warranted.
That seems unlikely, as it would send panic signals to the market. The RBNZ gets another shot in November with a full Monetary Policy Statement and if it cuts by 50 bps then as well, that would send us into the new year with an OCR at 4.25%.
Economists are picking the rate will fall further next year, so there is more relief on the way. ASB expects the OCR will be down to 4% by February 2025 and will reach a terminal rate of 3.25% from around mid-2025.
KiwiBank economists say market traders are putting “odds-on” bets of 50 bps cuts all the way through until February.
“The cash rate is priced to hit 3% by August next year, with a terminal rate around 2.5%, in line with our forecast,” they said.
So there is no question relief is on its way ... it’s just a question of how fast.
Check-in on the nzherald.co.nz site at 2pm for the decision and analysis.
That’s my favourite question about the economy. It’s more of a prelude to a range of questions, but it draws on the seemingly endless well of pessimism that economics inspires.
If things are going well, we can worry that the only way from here is down. If things are going badly, we can worry about our capacity to cope with any more bad news.
Remarkably, things are going pretty well for the global economy right now. There is a chance that this optimism will flow through to New Zealand as interest rates start to fall.
As discussed last week, the US economy is on a roll - its annual economic growth rate has recovered to 3% and at the weekend we saw its latest job creation data (the quirkily named non-farm payrolls) showed a big surprise on the upside.
It looks like the US will avoid recession, giving the US Federal Reserve breathing space to cut rates in a measured fashion.
This comes alongside a struggling Chinese economy that has already boosted iron ore prices, which will give Australia’s economy a shot in the arm. Hopefully, the stimulus will lift Chinese consumer sentiment too, which could boost prices for dairy and our other food exports like meat, wine and fruit. We might even see a much-needed lift in the number of Chinese tourists to New Zealand.
So what, if anything, could derail this positive economic outlook?
Since the conflict in the Middle East broadened to include Lebanon and Iran, oil prices have spiked about 10%. That’s a concern for those still worried about the tail end of inflation - not to mention being a pain for drivers who were just starting to enjoy the benefits of lower prices at the pump.
Brent crude - the variety of oil that New Zealand petrol prices are pinned to - spiked above US$81 ($131) on Tuesday after the latest strikes by Israel and Hezbollah.
It’s safe to say you’ll be paying more to fill up the tank this weekend.
But it’s worth keeping the spike in context. It takes us back to where we were in August and we’re still a long way off this year’s high of US$90.38.
Obviously, a wider war between Israel and Iran would be a disaster for the world. We’ve seen Iran launch a large-scale but ineffective missile attack against Israel and now the world is waiting on Israel’s response.
The stakes are high and it’s an awful situation for the region. It would be foolish to try to pick how it all plays out. But essentially there is a binary way of looking at the economic risk.
Either we’ll see an expansion of Israel’s conflict with Iran or we won’t. If Israel can be convinced (and there will be a lot of US lobbying going on) to respond in a measured way, perhaps this part of the current conflict will settle down.
If that’s the case, we could see oil prices slide back as the rest of the conflict - as terrible as it all is - has less direct impact on oil supply.
Iran is the world’s seventh-largest oil exporter, though half of its exports go to China.
If a serious and sustained conflict breaks out between Iran and Israel, there is a risk oil prices could spike back above US$100.
They rose to $US130 a barrel after the Russian invasion of Ukraine.
These are different times though. Broadly, oil prices have been coming down over the past year, mostly due to subdued demand, with both the US and Chinese economies being sluggish. As these economies rebound we should expect oil prices to rise, regardless of the Middle East situation.
The big variable in all of this is OPEC+, which still controls 40% of global supply. That’s enough that it can shift the price significantly depending on how much oil it decides to produce.
Saudi Arabia is the largest producer in OPEC+ and that gives it significant political sway. It’s one of the reasons the US maintains such friendly relations with the Saudis.
So far it has played a neutral hand, neither boosting nor cutting production.
Good news for human readers: if MIT economist Daron Acemoglu is to be believed, AI is unlikely to be able to replace more than 5% of jobs in the next decade.
There, bad news for humans with KiwiSaver accounts, though, as Acemoglu is a leading voice among a growing camp of sceptics who believe AI hype has created a bubble that will likely cause a stock market crash.
AI stocks - like chip maker Nvidia - have been very good to KiwiSaver funds over the past few years. Nvidia shares were worth US$12 in October 2022. Today they are worth US$125.
Acemoglu, who says he is not anti-AI or even pessimistic about its long-term prospects, hit the headlines last week with his big call about the low level of jobs that AI can actually do.
The Herald picked up the coverage from the Washington Post (read the full article here).
It’s probably worth mentioning that 5% of jobs is still a lot of jobs. That would effectively double our unemployment rate to 10% if it happened overnight.
But as promising as AI is for many things, there’s little chance it will live up to that hype, Acemolu says.
“A lot of money is going to get wasted,” he says. “You’re not going to get an economic revolution out of that 5%.”
He notes that four companies alone - Microsoft, Alphabet, Amazon and Meta Platforms - invested more than US$50 billion into capital spending in the second quarter of this year, with much of that going towards AI.
Having lived through the dotcom crash in 2000, I’ve been bothered by the risks of an AI bubble for some time (even as I’ve watched it pump my KiwiSaver account).
I remain ever hopeful that we might see pricing levels rebalance in an orderly fashion as investors switch out of tech stocks and into more mainstream companies that will benefit as interest rates fall.
But that’s seldom how market bubbles resolve themselves. Usually, things are much more dramatic.
Acemoglu sees three scenarios - a best case, a bad case and a worst case. The best we can hopeful is the kind of gradual deflation and rebalancing of valuations, he says.
There have been promising signs of this in the past few months. The tech-heavy Nasdaq stock exchange, home to Nvidia, has risen just 1.2% in the past six months. In fact, it is down about 4% since its most recent peak - just before August’s “flash crash” market sell-off.
Meanwhile, the S&P 500 - full of more traditional companies - has hit a series of record highs in the past couple of weeks.
But the Nasdaq is still up 40% in the past year and 130% since 2019. If investors get spooked, there is still enough air in there to deflate rapidly.
In Acemoglu’s second scenario, the AI hype keeps rolling for another year or so, leading to a tech stock crash that burns off corporate enthusiasm for the technology. “AI spring followed by AI winter,” he says.
But there’s a third, even worse scenario.
As the Washington Post puts it: “The mania goes unchecked for years, leading companies to cut scores of jobs and pump hundreds of billions of dollars into AI without understanding what they’re going to do with it, only to be left scrambling to try to rehire workers when the technology doesn’t pan out.”
That could have widespread fallout for the entire global economy, Acemoglu says.
Ominously, he sees a combination of the second and third scenarios as most likely.
But not this year at least!
US political mayhem might be a more pressing risk. As mentioned above, America’s economy has been humming along nicely. Could the upcoming election derail that?
There is plenty of commentary highlighting the risks with both presidential candidates. On balance, there is probably more concern about Donald Trump and his plans for 10% tariffs on all imports, although it depends on who you ask. Elon Musk seems more concerned about Kamala Harris’ tax plans and ambitions to rein in the tech sector with price controls and other regulations.
If we strip out the partisan political takes, the one big risk that remains is around an uncertain or contested election result.
If we don’t get a clear result on the night, we will face weeks of recounts or even months of uncertainty if things end up going through the courts. That seems likely given how close the polling is and how high the stakes are.
Markets famously hate uncertainty. Wall Street is likely to cope with either a Trump or Harris presidency. But a power vacuum for any significant length of time might be enough to spook investors and derail the current rally.
This year’s Mood of the Boardroom survey of chief executives and directors showed a surge of optimism about the economic outlook from here. But one thing they weren’t so upbeat about was New Zealand’s recent economic performance.
As I wrote for Inside Economics back in August, the idea of a “hard” or “soft” landing refers to whether policymakers can bring down inflation by lifting interest rates without putting the economy into recession.
On that definition, New Zealand has had a hard landing. If the Reserve Bank forecasts are correct, we are currently in our third recession in two years.
But interestingly, when business leaders were asked what they thought, the results weren’t a slam dunk.
Some 65% gave a hard “no” to the suggestion we might have managed a soft landing. Around 20% were unsure and 15% said yes.
Mitigating factors might include that the recessions so far have been shallow (albeit propped up by high net migration). Unemployment is still below 5%, a historically low level.
And despite some grim headlines and high-profile business failures, the stats for credit arrears, mortgagee sales and business liquidations remain lower than they were during the GFC and the years immediately after it.
There’s no question it’s a tough economy right now. But the long-term damage the period does will ultimately depend on how many jobs are lost and how many businesses fail.
Here’s hoping the recovery rolls on smoothly from here and we escape with something that might still be described as “softish”.
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. To sign up to my weekly newsletter, click on your user profile at nzherald.co.nz and select “My newsletters”. For a step-by-step guide, click here. 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.
New Zealand’s low productivity really is a serious problem.