A clear feature of the credit crunch world has been lower interest-rates and lower bond yields. This has come in two phases where the first was badged usually as an emergency response to the credit crunches initial impact. However as I warned back then central banks had no real exit plan from such measures and we then found that the emergency had apparently got worse as so many central banks cuts again. So if you like we went from ZIRP ( Zero Interest-Rate Policy) to NIRP ( N is Negative) . Along the way it is easy to forget now that the ECB did in fact raise interest-rates twice but the Euro area crisis saw it cut them to -0.4% and to deployed over a trillion Euros of QE bond buying so far. In the UK Bank of England Governor Mark Carney also retreated with his tail between his legs after a couple of years or so of Forward Guidance about higher interest-rates which turned out to be anything but as he later cut them to 0.25%!
Reserve Bank of New Zealand
Yesterday evening the Kiwis again joined the party.
The Reserve Bank today reduced the Official Cash Rate (OCR) by 25 basis points to 1.75 percent.
I have a theory that the RBNZ regularly cuts interest-rates when the All Blacks lose at rugby union and on that subject congratulations to Ireland on finally breaking their duck. Moving back to interest-rates that makes 40 central banks ( h/t @moved_average ) who have eased policy in 2016 so far which poses a question over 8 years into the credit crunch don’t you think? Central banks used to raise interest-rates when they claimed a recovery was developing.
Also we can learn a fair bit about the modern central bank from looking at the explanatory statement from the RBNZ.
Significant surplus capacity exists across the global economy despite improved economic indicators in some countries.
Perhaps only the Governor can tell us whether that psychobabble is good or bad! Anyway central banks used to cut interest-rates if the economy is either weak now or expected to be so let’s take a look.
GDP grew by 3.6 percent in the year to the June 2016 quarter, and near-term indicators suggest this pace of growth is likely to continue. Annual GDP growth is forecast to average around 3.8 percent over the next year. This strength has been a feature of the Bank’s projections for some time……….. As GDP is forecast to grow at a faster rate than the economy’s productive capacity, the output gap is projected to rise, contributing to inflationary pressure.
Oh well perhaps not. Also there is another (space) oddity if we look at a cut in interest-rates.
The combination of high population growth, low mortgage rates, and a shortage of housing in Auckland has continued to exert upward pressure on house prices…….Outside of Auckland and Canterbury, house price inflation reached a 10-year high in July, but has fallen slightly since.
Ah yes so a cut in interest-rates will help? Oh hang on as we observe this.
Mortgage rates remain around record lows
If we look at the chart we see that it is no surprise that house price inflation has slowed in Auckland because it want over 25% per annum. For some reason ( perhaps someone familiar with NZ can explain) Canterbury saw over 25% around 3 years ago. However the rest of New Zealand has seen a rise to around 10% per annum. Many would call this quite a boom and a central bank would raise interest-rates. Of course these days we are promised policies from long enough in the past that most will have forgotten they were failures back then.
This follows the announcement of further tightening of loan-to-value ratio restrictions in July 2016.
Also with the New Zealand economy growing so strongly it is hard ot avoid the feeling of beggar thy neighbour about this.
A decline in the exchange rate is needed.
The inflation argument is not so strong even for those who believe that 2% is better than 0%. Added to house prices we see this.
Annual inflation is expected to rise from the December quarter,
One area that is awkward for the central bank is this.
On an annual basis, the net inflow of working-age migrants rose to a new peak of around 60,000 in September
Of course establishment s everywhere tell us how fantastic this will be for economic growth which makes the rate cut even odder. But we see that it will have ch-ch-changes on New Zealand that elsewhere have contributed to not quite the nirvana promised. It is hard as a Londoner not to have a wry smile at this because both socially and in business you meet so many Kiwis some who are here for a while and some end up staying. It is however of course an urban myth that they all live in one camper van in Kensington! But if the mainstream media finally gets something right in 2016 New Zealand may be about to see a flow of American immigration as well.
The RBNZ does not give us GDP per head which would be interesting to see. We do however get something that as far as I know is unique in the central banking world.
We assume that over the medium term the price of whole milk powder will tend towards USD 3,000 per tonne, and that the Dubai oil price will continue to gradually increase to around USD 60 per barrel.
Firstly you get the wholesale milk price as you note it is provided before the crude oil price!
A Challenge to the central bankers
The RBNZ kindly gave us the central bankers view of what happens next.
Policy rates are at record lows across
most advanced economies and are expected to remain stimulatory over coming years. In 2016, quantitative easing by central banks has been at its highest level since the global financial crisis. The degree of unconventional monetary policy is unlikely to increase further.
Of course Forward Guidance from central bankers has been anything but that! Also whilst they may well continue to reduce official interest-rates it looks to me as if there will be trouble elsewhere. This is because inflation looks set to rise and its impact on real or inflation adjusted bond yields. There was an element of this in the rise in the US 30 year bond yield that I pointed out yesterday after Donald Trump was elected.
Putting it another way the chart of inflation expectations below is revealing. However take care as these things are very broad brush as in useful for trends but very inaccurate in my opinion.
That starts to make current bond yields look a bit thin doesn’t it?
Today I have been looking at two opposite forces as the central banking army continues its advance but faces more potential guerilla style opposition. We do not yet know how much inflation will pick-up overall but we do know that unless the oil price falls heavily it will do so. We also know that in some areas we are seeing hints of commodity prices rising again as for example Dr.Copper has been on the move. in response bond yields are rising today and as summer has moved into autumn we have been seeing this overall. For example the ten-year bund yield in Germany is now 0.28% as I type this. This is simultaneously giddy heights compared to recently as well as still very low!
So a clash is coming as I believe that central banks such as the ECB are happy for yields to rise now so they can act again later and claim success. The problem is two-fold. If it is so good why do we always need more and secondly how does this work with rising inflation trends?