Treasury warns of more pain if interest rates rise

Mortgage borrowers and businesses will feel more pain as inflation stays high until the end of next year, Treasury says in its pre-election economic and fiscal update (Prefu).

Tuesday, September 12th 2023, 4:09PM

by Sally Lindsay

Interest rates could be hiked in the ongoing battle to bring inflation under control, says Treasury. The Prefu shows mortgage spending will more than double, compared to September 2021.

Prefu, published every three years before a general election, looks at the Crown’s books and forecasts the future. It is based on assumptions and judgments that steer what political parties’ say about the economy as the election campaign heats up, and means possible monetary tightening by any new government if inflation rises.

The latest Prefu is not predicting a recession. In fact, it is forecasting economic growth of 2.6% and wages to grow 4.8% by 2027.

However, Treasury says with persistent inflation and domestic demand pressure, interest rates are expected to remain at their existing level over the next year in order to kick inflation into touch.

High interest rates will constrain economic growth to a quarterly average of 0.4% over the next year and the unemployment rate is expected to rise to 5.4%, while wage growth will ease from a relatively high 6.9% in June this year to 3.7% in June 2027.

After this period, annual inflation is expected to return to within the Reserve Bank of New Zealand’s target of 1-3% by December 2024 and interest rates will gradually ease from late-2024. From then on, economic growth will lift slowly, and the unemployment rate will start to fall from mid-2025.

Subdued house price growth and easing labour market conditions will dampen households’ wealth and incomes, constraining growth in household consumption, Treasury says.

For businesses, rising costs and subdued domestic demand will weigh on investment, offset partially by the North Island cyclone rebuild.

As for the accounts overall, recent tax takes have fallen short of expectations, and Treasury expects this will persist. This leads to weaker results for the fiscal position in 2022/23 and across the forecast period. After taking into consideration the Government’s recently announced $4 billion spending cuts, higher expenses, and other developments since the Budget, Prefu shows the operating balance before gains and losses (OBEGAL) returning to surplus in the 2026/27 fiscal year, one year later than previously forecast, and net debt as a share of gross domestic product (GDP) starting to fall from a peak of 22.8% in the 2024/25 fiscal year.

Tags: Treasury