NZ central bank may give economy more room to run as inflation remains weak

Monday 14th March 2016

The New Zealand economy may have extended its rebound in the fourth quarter, confirming growth accelerated after a weak first half in 2015, although a strong number is less likely to rattle a Reserve Bank intent on fuelling inflation.

Gross domestic product rose 0.7 percent in the final three months of 2015, based on market consensus and the Reserve Bank, which is projecting that rate of growth, on average through until March 2019. The economy probably expanded 2.1 percent in the year.

The central bank cut the official cash rate a quarter point to 2.25 percent last week and projected another cut of at least the same amount in an attempt to return annual inflation to the 2 percent mid-point of its target range by March 2018 from just 0.1 percent in 2015. In more normal times, when inflation isn't stubbornly low, a GDP number higher than expected would probably rule out a further cut to the OCR but economists say the central bank has shifted its thinking.

"We've got this dichotomy where the economy seems to be doing OK but inflation is surprising on the downside," said Robin Clements, senior economist at UBS. "So instead of expecting growth to generate inflation the bank will wait to see the whites of their eyes. They'll give growth more of a chance."

Many economists expect the Reserve Bank to cut again in June, keeping the OCR on hold at its next meeting on April 28, based on the overnight interest swap curve, which has a small majority - 58 percent - seeing no change next month. The bank revised down the track of the 90-day bank bill rate to a low of 2.1 percent in the latest monetary policy statement from the 2.6 percent rate it forecast in its December MPS.

Clements is forecasting growth of 0.5 percent for the fourth quarter of last year, although, on a sum-of-the-parts estimate, the economy may have grown 0.8 percent, he says.

Much of the momentum has been driven by population growth in the face of record inbound migration. Economists at ASB Bank are forecasting annual average growth slowed to 2.4 percent in the fourth quarter from 2.9 percent, saying that "may seem quite reasonable" given a muted global backdrop.

"However, given that population growth accounted for much of this lift, this is relatively soft performance and it is little wonder inflation pressures are lacking," they said. "Looking ahead, we expect trend growth to pick up over 2016 and 2017, supported by lower interest rates and a lower New Zealand dollar."

ASB expects that construction contributed the most to economic growth in the fourth quarter while primary sector production "is likely to remain subdued, due to weak dairy production in response to low dairy prices." It expects the services sector to continue to expand, driven by business services, tourism and education exports.

New Zealand’s services sector activity expanded at a faster pace in February, as employment picked up, based on the BNZ-BusinessNZ performance of services index, which rose 1.5 points to a seasonally adjusted 56.9 last month.

Ahead of the GDP data on Thursday, the government statistician releases fourth quarter balance of payments figures on Wednesday, which are expected to show the current account deficit narrowed to $2.95 billion, or 0.7 percent of GDP, from $4.75 billion, or 0.9 percent, three months earlier, as lower dairy prices weighing on the goods balance were offset by a pick up in services, led by tourists.

BusinessDesk.co.nz

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