Thursday, 11 September 2014

So far so good

Today's Reserve Bank monetary policy decision came as no surprise - as predicted, for example in this survey, the cash rate was left unchanged. Can't argue with the decision, either: more "wait and see" was exactly right while we see the ramifications of previous rate increases (which are indeed cooling the housing market), lower export prices (especially in the dairy trade), and, of course, what the post-election government looks like.

I was also encouraged by a graph (below) which the RBNZ included in the Monetary Policy Statement, and which showed that the rate of domestic non-tradables inflation is very modest indeed outside of the construction sector.The overall non-tradables inflation rate is 2.7%, but on the RBNZ's estimates nearly all of this is down to the understandable cost pressures in the building trades.


I'd thought that our home-generated non-tradables inflation, other than on the building site, was running hotter than this, and didn't like the look of it, but so far, so good. Looking ahead, domestically sourced inflation will pick up from here, given that the currently strong economy is running above its "potential output" level, so let's hope that the Bank's view is correct that "the pick-up in non-tradables inflation is assumed to be gradual, and annual non-tradables inflation is forecast to peak at 3.4 percent in 2016". I'm a bit more agnostic about a 'cost plus' mentality in the more sheltered parts of the New Zealand economy, but let's see.

Another interesting graph (below) was the one showing the relationship between export prices in our main trading partners and import prices here in New Zealand.


The Bank has been fortunate that global events have helped keep local imported inflation low: export prices in our main trading partners have actually been falling, reflecting sub-par or outright weak economic conditions in some of our import suppliers. At some point the international tide will turn, and the global economic cycle won't be flattering our apparent inflation control quite so much: if there's a place the Bank does not want to find itself in, it's the one where imported inflation rises and domestic non-tradables inflation rises around the same time. That would produce some really ugly headline inflation rates.

Finally, and maybe this is just an issue of shades of terminology, I was left wondering how to reconcile this statement on the Kiwi dollar in the 'Policy assessment' bit - "Its current level remains unjustified and unsustainable. We expect a further significant depreciation, which should be reinforced as monetary policy in the US begins to normalise" - with this one on p17 of the Statement: "The New Zealand dollar is assumed to remain relatively strong given New Zealand’s relatively favourable economic outlook and positive interest rate differentials". I suppose the overall message is, "we expect the Kiwi to come a cropper, but maybe not as much of a cropper as it deserves, and it mightn't be tomorrow or the day after", which is probably as specific as anyone is ever able to be in the very inexact art of exchange rate forecasting.

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