Buoyant dairy market buffers economy from tourism downturn, Orr says
Tuesday, 1 June 2021
Strong global demand for New Zealand primary products is ensuring the economy remains resilient during the Covid-19 pandemic and is helping offset tourism losses, Reserve Bank governor Adrian Orr says.
Last week, the Reserve Bank released projections showing it expects the benchmark interest rate to rise from record lows in the second half of next year, along with a pickup in growth, employment and inflation. It warned the projections were “highly conditional”.
On the same day, Fonterra announced a record opening milk price for its 10,000 farmer suppliers this season which could contribute more than $12 billion to the economy, underpinned by an improving global economy and strong demand.
Fonterra’s forecast was “very good news” and was included in the bank’s projections, Orr said.
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“That’s a positive for the country,” he said. “That’s one of the reasons why the New Zealand economy has remained as resilient. We have had strong global demand for our primary products and a strong terms of trade.”
An improvement in terms of trade benefits an economy because the country can purchase more imports relative to its exports.
Orr said the dairy boost was needed but noted it only partially offset some of the massive losses of income from tourism and tourism-related sectors that have been hurt by border closures during the pandemic.
“There are significant parts of the economy or sectors that are struggling and will continue to struggle until normality,” he said.
Orr said the environment was becoming more positive and less uncertain as Covid-19 vaccines were rolled out globally and health authorities got better at containing outbreaks.
Still, he said he remained very concerned about outbreaks of Covid.
“Until we get on top of this vaccination roll-out, this uncertainty will remain, and seeing that there’s very little rhyme nor reason to where these pockets break out.”
Growth rates between countries and within sectors remained volatile, he said.
Producers of primary goods like food in New Zealand, were “doing very, very well,” Orr said.
“But if you are involved in anything that needs face-to-face contact, the service sectors, the hospitality sectors, and in our case in New Zealand, anything related to tourism, it’s a nightmare still.”
The Reserve Bank had chosen a path of “least regret” during the initial big negative shock of Covid, he said.
“We didn’t want to think wow, damn, we did too little too late, so that’s why we went as hard as we could with the risk of doing too much too soon,” he said. “We are in a nice position now where the risks have borne out, and we are just sitting there with cautious optimism.”
Orr said Covid-19 was not the most uncertain environment the economy had faced. There had been many negative shocks in the past, including Sars, bird flu and the global financial crisis.
He said there were challenges as the bank began to look to raise interest rates from record lows.
“Households and governments are holding a lot more debt than they used to, so they will be more sensitive to interest rate changes,” he said.
Asset prices were also “very richly priced” due to the historically low interest rates and would be sensitive to changes in rates, he said.
Still, the risk of not raising rates could see the return of strong inflation that would have an even more profound impact on economic activity, welfare and intergenerational equity, he said.
“We need to talk strongly about what we believe is some kind of long run fair value for assets, neutral for interest rates, and hope people listen,” he said.
While the outlook was looking positive for dairy farmers, Orr said he wanted to remind farmers that prices that went up could go down as well because of changes in global markets over which we had no influence.
”Bank the money and keep an eye on your leverage,” he said.
“The dairy sector was in a very uncomfortable position as recently as two years ago around excess leverage, farmers were up to their eyeballs in debt in some parts, and we don’t want to see that again,” he said.
“The banking sector got well out over their skis, and they have pulled themselves back, so it’s about thinking about the long term rather than the current price they are observing.
“As exciting as borrowing opportunities are, the prices are one-off, a mortgage is there for 10 to 15 years,” he said.