Confidence on interest rate cuts next year vanishes

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Optimism there will be OCR and interest rate cuts next year could be misplaced.

Wednesday, September 6th 2023, 10:34AM 2 Comments

by Sally Lindsay

Independent economist Tony Alexander says whichever party is elected in October, it will have to tighten fiscal policy and rein in spending because of a deterioration in the Government’s accounts.

The government’s published accounts for the 11 months to the end of May showed tax revenue was more than $2 billion behind where Treasury had forecast it to be at the budget and slow or near-zero growth is expected to deepen this deficit.

The Reserve Bank recently released its predictions for the economy and inflation, including the government's accounts. “This financial year’s predicted deficit was 0.8%, but that has now blown out to 2.3%”, Alexander says.

On top of that, the International Monetary Fund (IMF) has issued a blunt warning that the country is at risk of falling into a deeper recession than the October to March this year recession which it has just climbed out of. It is predicting the country will have the second lowest growth of the 159 countries it monitors – just ahead of Equatorial Guinea.

Finance minister Grant Robertson has already reacted to the expected deficit by shaving $4 billion off spending off and asking government departments to find other efficiencies, which Alexander says “could have been found five or six years ago as well”.

If advisers think they have got some inside word on timing for either tax cuts next year or the year after or spending increases, Alexander says they should pull back on the optimism because this is something any new government is going to have to address after the October 14 election.

He says the deficit blowout could cause a bit of upward pressure on interest rates, although the recent lift in banks’ rates has nothing to do with the domestic economy, rather it’s worries about inflation next year in the United States.

“It is leading to reduced expectations of monetary policy easing there, which has just led to an increase in the medium to long-term fixed interest rates in US markets, which has fed through to New Zealand.

“One of the factors also pushing up US wholesale interest rates has been concern about an increased volume of debt issued by the US Treasury. Alexander says a similar factor has been in place in New Zealand as well.

“The government's accounts are deteriorating significantly because businesses are having their profits squeezed by costs going up, but not being able to pass on those cost increases into selling prices as much as they would like to do so tax payments to the government are going down.”

Borrowers drift to longer terms

As major banks have lifted interest rates, mortgage borrowers are favouring longer-term fixed rates.

The latest RBNZ data on residential mortgage lending shows total lending was $5.2 billion in July, down 16.9% from $6.2 billion in June. In comparison to July 2022, new residential lending fell 12.8% from $5.9 billion.

The share on fixed interest rate terms continued to rise to 81.7%, up from 79.6% in June, however the share on floating terms fell to 18.3% – the lowest on record.

The most popular interest rate term for new owner-occupier mortgage lending was one-year fixed, with this term accounting for 27% of all new lending, a small fall from 27.1% in June.

Lending on two-year fixed terms rose notably to 22%, up from 18.3% in June. On the other hand, the share of lending on three-year terms saw a sharp decline to 12.2%, down from a recent high of 16.3% in June.

Residential investors lending showed similar trends as owner occupiers. In particular, there was an increase in the share of new lending on two-year fixed terms and a drop in the share of lending on three-year fixed terms.

Tags: OCR

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