Interest rates expected to slide by the end of the year

Interest rates expected to slide by the end of the year

Over the past fortnight since my last column looking at interest rates in New Zealand, there have been some developments which heighten the chances that the Reserve Bank will make its first cut to the official cash rate before the end of this year.

First, we have learnt that the New Zealand economy slid back into recession over the second half of last year and that per capita economic activity levels are down 3% from a year earlier. The record migration boom is not offsetting the impact on our economy of tight monetary policy.

Second, consumer confidence measured in the ANZ Roy Morgan monthly gauge has slipped from a reading of 95 to 86 where the average for the past decade has been 112. People have become more fearful of the future and that is probably partly because of the discussion about recession.

Third, and related to the dour state of consumer sentiment, reports of redundancies in both the public and private sectors have become more frequent.

People are becoming more concerned about their employment and that is very important for consumer spending.

In fact, I can get some insight into this from my monthly survey of real estate agents. I ask the agents about the things which buyers are expressing concern about.

One of the options is income and employment

On average since 2020, 15% have said buyers are concerned about their jobs. In January this was 14%, February 23%, and now just after the end of March the proportion in provisional results is 38%. People have become very concerned about their income prospects and that means less spending on consumer goods and housing.

The argument, in favour of my view, that the Reserve Bank has now tightened too much after loosening monetary policy too much, is growing. That means the chances of a rapid series of interest rate cuts from late this year are growing.

But we are not there yet

The ANZ’s monthly Business Outlook Survey still shows a net 45% of businesses plan raising their selling prices in the coming year. That is still almost twice the long-run average consistent with inflation near 2%. There have also been some signs offshore that inflation rates are not going to keep falling anywhere near the pace they have already done so in some economies such as the United States and Australia.

What are the implications for borrowers?

The incentive remains to fix for a relatively short time period, perhaps some mixture of fixed terms between six and 18 months. At some stage the time will be right to fix for three to five years again but we are a long way from that. We cannot possibly know when interest rates will next bottom out.

Worse than that, all around the world there is high uncertainty regarding what the new average level of interest rates will be. It won’t be as high as before the 2008-09 global financial crisis, but it might not be as low as in the decade which followed the GFC as we headed into the pandemic.

That is useful information in itself

It tells us that predictability is low and that means trying to pick an optimal path for interest rate management during the period of one’s mortgage is not a reasonable goal. For most people, the optimal thing will be to maximise debt reduction when possible and to have some version of a spread of fixed rates in order to smooth through time the cash flow impact of shocks which we know will come — we just don’t know when.

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