Higher interest rates drive continued weakness in housing demand

By Christina Leung, Principal Economist for the New Zealand Institute of Economic Research

REINZ housing market data showed a further decline in the number of house sales and house prices as higher interest rates weakened housing demand. The decline in housing market activity and house prices was across the regions but was particularly marked in the North Island main centres of Wellington and Auckland. While we expect a further broadening of this weakness in the housing market over the coming year, the disruptions from the floods and Cyclone Gabrielle should continue to weigh on housing market activity in the upper and central North Island in the coming months.

Signs of easing in the pipeline of residential construction, but still solid

The construction outlook is mixed. There are some early signs of an easing in dwelling consent issuance, but overall it remains at a high level. This suggests a solid pipeline of construction work for the remainder of 2023. Beyond that, there are signs of a softening in demand with a reduction in enquiries for new construction work. We expect post-storm rebuilding activity will become more apparent from 2024, given the time taken for damage to be fully assessed, insurance to be paid out and building consents to be issued. Nonetheless, we expect overall construction activity to ease from 2024, albeit at a slower rate than had been forecast before the severe weather events, given the rebuilding activity that will now have to take place. Some rebuilding of infrastructure is already underway, which requires the reprioritisation and redeployment of resources.

Uncertainty over just how high interest rates will go

Interest rates remain a key influence on housing and construction demand, given it affects access to finance. There is still a large degree of uncertainty over how much higher the Reserve Bank will increase the OCR over the coming year and what that means for retail interest rates. The RBNZ February Monetary Policy Statement retained the hawkish tone of the November Statement, despite the new challenges faced by the New Zealand economy from the severe weather events. The RBNZ continued to indicate it will take the OCR to a peak of 5.5 percent in order to rein in annual CPI inflation back towards its 1 to 3 percent inflation target band.

The latest December 2022 GDP data showed a 0.6 percent contraction in activity over the quarter, suggesting the earlier OCR increases are having their intended dampening effect on demand in the New Zealand economy. In particular, retail spending is slowing, and we expect with half of mortgages facing repricing over the coming twelve months, many households will continue to rein in discretionary spending in the face of much higher mortgage repayments.

The recent collapse and bail-out of major banks abroad also add to the uncertain outlook and caution amongst banks towards lending. These banking crises also highlight the risk of over-correction globally when conducting monetary policy.

Migration-led population growth to support longer term demand

Despite these headwinds facing the New Zealand economy over the coming year, the longer term outlook remains positive. Net migration into New Zealand is recovering, although it is hard to gauge the extent of this recovery given the way Stats NZ now collects and compiles this data means it is prone to historical revisions. Nonetheless, beyond this short-term volatility, we expect that over the longer term, as more firms bring in workers from overseas to alleviate the labour shortage, this will underpin housing and construction demand.