June 08 OCR review and MPS
Posted June 5, 2008on:
The Reserve Bank left the official cash rate unchanged today at 8.25% – inline with the expectations of most if not all market analysts. However, as always, the devil was in the detail.
Starting with the statement, the language surrounding potential cuts changed completely. In March (*) we had “the OCR will need to remain at current levels for a significant time yet” then in April (*) “the OCR will need to remain at current levels for a time yet”. However in June we got:
Provided the economy evolves in line with our projection, we are now likely to be in a position to lower the OCR later this year (*)
With the RBNZ picking an annual inflation rate of 4.7% by September they are effectively stating that if the June CPI number is weak (or even moderate), rates will be cut by July.
Further detail was in their Monetary policy statement for June (effectively their forecasts).
Several things have changed significantly since their March MPS (*):
- TOT forecasts,
- CPI forecasts,
- Consumption and employment forecasts.
Terms of trade
Here the Reserve Bank had the terms of trade falling to 2005 levels by late-2008. As they expect oil prices to fall this can only be the result of a fall in export prices. This is surprising given that world growth is expected to still be 2.9% (compared to a forecast of 3.1% last time).
Overall, I’m unhappy with this change – it seemed like an artificial way of driving down domestic economic activity in their forecasts.
Inflation of 4.7% by September – makes my 5% comment sound reasonable 🙂
Overall this pick would be on the high side of market expectations. If June CPI really is lower than 3.8%, this would give the Bank a reason to cut rates.
Non-tradable inflation eases more quickly than I would expect in their forecast, especially from September onwards – this stems from their outlook for the labour market.
Negative employment growth for 3 years! The unemployment rate lifts to 6.0%! Sure employment intentions have eased over the past few months – but such a sharp and persistent turn in the labour market is unfathomable. Add to this the fact that a number of the shocks hitting our growth are temporary supply shocks and such a significant downturn in the labour market seems incredible.
The shocks to the labour market stem from the view that the demand side of our economy is softening – specifically the household sector.
Private consumption growth of 0.4% over the March 09 year, -0.2 in March 10 and 0.1 in March 11. They are expecting one hell of a reduction in consumption – and as a result a huge increase in private savings (with disavings falling from 14% of disposable income to 5%).
Now I agree that we will see an increase in savings in the near term – but my goodness, this is ridiculous. Liquidity is likely to remain abundant, and they are forecasting a significant cut in interest rates by this period – so why is savings rising? (I guess income insurance, and also as a way of trying to recover savings following the fall in house prices, and also maybe lower long term growth expectations could be a justification – even though there potential output level is relatively constant).
It seems that the Bank is going to cut rates sooner rather than later – however I’m not supportive of this idea if we truly wish to control inflation.
Update: Read the review of this statement by Westpac – they are exactly right!
Update 2: Bernard Hickey goes into detail about why this early cutting is a bad idea. The money quote is
non-tradeables inflation is a major factor and has been elevated above 3% for nearly six years. Non-tradeables inflation has never been below 3% during the governor’s term, yet he is forecasting a fall from 3.9% to 2.5% between December of this year and September of next year. This is worthy of scepticism.