Liam Dann: Does strong GDP result just mean higher interest rates?

ANALYSIS:

New Zealand is not in recession and that is a good thing.

Economic growth bounced back sharply in the second quarter of the year with a rise of 1.7 per cent - up from a 0.2 per cent contraction in the Omicron-affected first quarter.

But in this inflationary cycle the ongoing strength of the economy can't be viewed as unambiguously positive.

There's a catch. Today's strong data serves as a reminder that this is an economy running hot.

There are parts of the economy that need to slow before the Reserve Bank (RBNZ) will feel comfortable easing back on its monetary policy tightening.

In fact, the data was so strong that at least one bank economist saw it as cause to lift its forecasts for the Official Cash Rate (OCR) peak taking its forecast peak to 4.25 per cent.

That could mean higher mortgage rates, for longer.

"Even modest growth will likely see the OCR move higher as the RBNZ taps on the monetary policy brakes to rein in stretched capacity pressures and seek to ensure that inflation settles at the 1-3 per cent target range," said ASB senior economist Mark Smith.

Of course, as Smith acknowledges, the Reserve Bank can take some comfort that the result still came in below its own growth forecast for the quarter at 1.8 per cent.

But while much of the GDP data across the pandemic had been "just noise" there now looked to be more substance behind the figures, he said.

"The New Zealand economy is unlikely to repeat its [second quarter] heroics, but underlying base momentum should remain," he said.

In contrast, Westpac chief economist Michael Gordon said he saw no implications for the OCR in the data.

The result was largely in line with his forecast of 1.6 per cent for the quarter and Westpac stuck with its forecast 4 per cent peak for the OCR.

But he also saw no cause for any let-up on hikes across the next few months.

"The heart of the issue is that the economy is running above its non-inflationary capacity", Gordon said.

"Higher interest rates will work to close that gap over time, but the challenge is in managing that process. Doing too little means that inflation could become stubbornly persistent; too much could mean an unnecessary period of weak activity and high unemployment."

It was important to note that there were parts of the economy that were already in decline, he said.

Retail sales were down 3.7 per cent, mining shrank by another 8 per cent, non-food manufacturing (excluding petroleum, due to the Marsden Point refinery closure) fell by 1.3 per cent, and construction saw a 2.4 per cent fall.

International ratings agency Moody's went further, suggesting the data might actually provide the RBNZ with some comfort that monetary policy was working.

The central bank might even ease off on tightening earlier than expected, the agency said.

It noted that household consumption fell in the quarter (down 3.2 per cent) and this would be welcome news for the RBNZ.

"The impact of rising interest rates are finally feeding through to domestic demand; this will quell demand-driven inflation pressures. Purchases of durable and non-durable goods fell in the quarter, and expenditure on services rose a little."

Overall the picture was one of normalisation of the economy as both New Zealand and the world have moved beyond Covid restrictions, said Westpac's Gordon.

Westpac Bank chief executive Michael Gordon. Photo / Supplied

"Generally speaking, the parts of the economy that have been running hot in the last couple of years - when people switched their spending away from services and towards physical goods - now face a return to more sustainable levels of activity."

"At the same time, travel spending in particular - which was a sizeable net positive for New Zealand before the border closure - is just starting its recovery."

Export of services - essentially tourism - was up a whopping 60.7 per cent.

"The return of tourists has had an outsized impact (albeit off a very low base)," said Kiwibank economists.

There were big gains in transport, accommodation, eating out, and sports and recreational activities.

Goods exports were up 3.8 per cent, led by agriculture, fisheries and forestry.

Kiwibank (along with many other economists) sees growth moderating through the year as interest rate hikes start to bite.

"Between weak confidence and deteriorating firm investment intentions, signs of slowing domestic demand are already emerging," they said.

"The RBNZ is on an inflation-fighting path. The end goal is an inflation rate back at target. Doing so requires domestic demand to ease back, restoring balance in the economy."

BNZ currency strategist Jason Wong said the market's reaction to the data was subdued - the New Zealand dollar rallied by just 10 basis points to around US60.22c after the release.

"The underlying figures were actually pretty weak, if you look at the demand and expenditure figures," he said.

"It was all driven by net exports (up 20.5 per cent)."

The data showed private consumption expenditure was down 3.1 per cent and investment in fixed assets fell by 3.3 per cent.

"It wasn't really a sign of strength, put it that way," Wong said.