Interest rates falling

The following article is written by Tony Alexander; an independent economist with additional commentary available at www.tonyalexander.nz.

In my last column four weeks ago I wrote about the rapidly increasing scope for monetary policy to be eased later this year, citing the Reserve Bank’s tendency to only belatedly recognise changes in our economic growth rate alongside falling measures for business price changes.

Since then monetary policy has not been officially eased, but wholesale interest rates have fallen by between 0.5% - 0.7% for the 1-5 year fixed terms and banks have slightly cut their mortgage rates 0.1% - 0.4%. Margins remain at well above average levels for our banks and scope exists for mortgage rates to fall another 0.25% or so in the near future though we cannot know when in one of New Zealand’s many sectors dominated by just a few large players.

Why have wholesale interest rates rallied? Mainly because on July 10 in its regular review of monetary policy the Reserve Bank expressed greater confidence about inflation falling, noted greater than expected weakness in the NZ economy, and withdrew their previous warning that they might need to raise interest rates again.

In addition, the June quarter inflation numbers came in marginally better than expected. More importantly however may be the continuing string of poor economic data telling us that the economy is probably still not growing, and the risk is that there is more downward pressure on inflation than the Reserve Bank could have been planning.  

But before we get overly optimistic about interest rates getting slashed quickly by the central bank at their next policy review on August 14, it pays to note that the Reserve Bank still has ample reason for caution.

One reason can be found in the just released Business Outlook Survey from ANZ. I have discussed this survey before with a focus on their measure of the net proportion of businesses saying they plan to raise their selling prices in the next 12 months.

The average for this measure is 25% and it peaked above 80% in 2022. It was stuck near 50% for about a year from May 2023 but recently has declined and was at 35% in June. The latest result is 38%, a slight increase. This is not too concerning as very few time series in the world of opinion surveys move in straight lines up and down. But the absence of another quick fall means the Reserve Bank is presented with a reason for not completely removing their foot from the economic brake.

While I feel the chances of a rate cut on August 14 are below 30%, the probability is very strong for the review after that on October 9 and near 100% for a cut by or on November 27.

For borrowers the message remains one of interest rates having peaked earlier this year and fixing about six months is likely to be the optimal choice for most people. But it pays to be aware that if one is choosing to keep fixing for six month periods the ending of this strategy cannot be clearly seen.

That is, we cannot possibly know when fixed mortgage rates will reach their cyclical lows and I return to my criticism of Kiwis failing to recognise the advantages of fixing 3-5 years when rates are at below average levels.

The world growth and inflation outlooks are uncertain, and we cannot possibly model the likely impact of AI, offshore military events, or even how much more costs will rise for Kiwi households for council rates and insurance.

All we can reasonably say is that mortgage pain has started down the path of easing off and hopefully when we do reach the cyclical rate lows, we will have enough information in hand to actually recognise it at the time!

Interest Rates Falling