By Christina Leung, Principal Economist for the New Zealand Institute of Economic Research
The flood and Cyclone Gabrielle in recent weeks created more uncertainty over what the Reserve Bank of New Zealand (RBNZ) would do with the Official Cash Rate (OCR) and the tone of its Statement. There had been increasing speculation that the RBNZ would perhaps halt its monetary policy tightening in the wake of the widespread devastation to property, livestock, crops and lives. In the end, the RBNZ persevered with a 50 basis point OCR increase and retained its hawkish tone.
Flood and Cyclone Gabrielle throws up new challenges for the economy
The RBNZ acknowledged the even greater degree of uncertainty with its current set of forecasts in its February MPS. New Zealand is still grappling with the damage inflicted by the recent extreme weather events, and any preliminary cost estimates would likely have to be revised higher over the coming years. To be clear, the damage is a wealth loss to the economy. We estimate the affected regions in total account for over 40 percent of New Zealand’s agriculture production. While not all agriculture production in the affected regions would have suffered damage and some regions would have been more impacted than others, it highlights just how widespread the devastation is. We expect New Zealand’s agricultural output will decline in 2023 as a result of the extreme weather events.
Beyond the near-term disruptions and impact on supply, we expect the rebuilding and replacement of damaged property and infrastructure should underpin growth in the New Zealand economy over the coming years. This will be most apparent in the construction sector. Building consent issuance had pointed to a solid pipeline of construction work over the coming year, but building sector firms reported a decline in inquiries for new construction work from 2024. We now expect rebuilding will support the pipeline of construction work over the longer term, which will likely mean capacity pressures in the sector will persist. Overall, the rebuilding should put upward pressure on prices and mean high inflation persisting for longer.
We continue to expect the OCR will peak soon
The RBNZ continued to project the OCR would rise to a peak of 5.5 percent over the coming year, albeit at a slightly slower pace of tightening than previously forecast. We continue to expect a lower OCR peak of 5 percent, but acknowledge the upside risks to our interest rate forecast. Not withstanding the replacement of household goods damaged by the extreme weather events, we expect a slowing in retail spending as households roll off historically low fixed mortgage rates of around 2 to 3 percent onto rates of around 7 percent over the coming year. We should also receive further information around the extent of damage sustained over the coming months, which should provide greater clarity around the appropriate policy response.