Friday, November 16, 2012

Odds of a NZ rate cut rises, but still not our base case

The New Zealand economy hit a soft patch in the third quarter, at least in terms of employment and retail spending.  The key question is whether the recent run of poor data has changed our view of a modest acceleration in growth next year, largely on the back of higher construction activity.  The short answer is no.  The key question with respect to monetary policy is whether it’s changed the RBNZ’s view of the future.  We will find that out at the next Monetary Policy Statement on December 6th.

The rise in the Household Labour Force Survey (HLFS) unemployment rate to 7.3% in the September quarter was both a surprise and a disappointment.  It was a surprise largely because it was inconsistent with other labour market indicators.  The earlier release of the Quarterly Employment Survey (QES) had made me MORE comfortable with my expectation of a modest increase in employment and a decline in the unemployment rate in the HLFS.  How wrong was that?

Wage data in the QES was also consistent with a labour market that is muddling along.  Hourly earnings were up 2.8% y/y and unit labour costs up 1.9% y/y.  That’s not indicative of a strong labour market, but neither is it a sign of weakness.  Even more difficult to interpret was the combination of a 2.0% y/y fall in hours worked in the HLFS and a 1.9% increase in paid hours in the QES.  Confusing? Suffice to say we will be monitoring labour market indicators closely in the period ahead.

The weak labour market picture was lent some credence by the reported weakness in the September quarter retail sales.  We had expected a soft number following the reasonably strong June quarter and our expectation that it was likely we would see a reduction in the annual given the strong base of September 2011 which had started to benefit from Rugby World Cup activity.  We also keep reminding ourselves that this is not meant to be a consumer driven recovery!!  However, the -0.4% q/q out-turn (in inflation adjusted terms) was weaker than we were expecting.

Our expectation was the second half of 2012 would be weaker than the first half, but it now looks weaker than our initial estimate.  The retail sales result knocks my +0.4% Q3 GDP forecast down to +0.2%.  We still expect construction and exports to be strong, however high export growth will be moderated somewhat by the fact that some of this (dairy) will be coming out of the build up in inventories that boosted growth in the first part of the year.

In terms of monetary policy, the key question is whether the weakness we have seen in the data over the last few days is the start of a new trend or just a short-term bout of weakness.  I’m thinking it’s the latter at this point.  That’s supported by the forward looking indicators we monitor such as business and consumer confidence and dwelling permits which continue to point modest underlying growth and pick-up in building activity in the months head.  So while the odds of a rate cut have certainly risen in the past 10-days, we still expect the next move from the RBNZ to be a tightening in monetary conditions.  More on New Zealand growth, inflation and the outlook for monetary policy next week.