Light at end of the tunnel, but recovery may be two-speed, ‘patchy’ and peppered with risks

Saturday, 27 July 2024

Winter may not quite be over, but the birdsong is picking up, early daffodils are blooming and Finance Minister Nicola Willis is talking more optimistically about economic recovery.

Will the “green shoots” economists are watching for herald a spurt of weedy growth, a slow-growing totara, or the arrival of a triffid ready to sting us with a second dose of inflation?

Speaking in Parliament this week, Willis highlighted the expectation interest rates would start falling before the end of the year.

“When interest rates fall, the economy will start recovering which means higher incomes and more jobs.”

That confidence seems to be shared by Auckland Chamber of Commerce chief executive Simon Bridges.

He predicts a “palpable lift in confidence and activity” once the official cash rate starts to fall.

“This will be both because sentiment will change, as household and businesses feel ‘permission’ to spend and invest again, and because it will start to create more cash in everyone’s pockets.”

Alan McDonald, head of advocacy at the Employers and Manufacturers Association (EMA), is more downbeat.

The association has just completed a three-week road trip during which it met with 1700 members and McDonald says “there’s not a lot of positivity out there”.

The EMA usually fields about a dozen calls each month from members seeking advice on restructuring or redundancies, but last month it received 120, not much down on a peak of 150, he says.

“If it's ‘getting better’, then those numbers aren't reflecting that.

“Some of our exporters are doing really quite well but, mostly, the biggest thing for our members is forward orders and that's really difficult.”

Part of the reason for the darker mood is that the association is less convinced than most that lower interest rates really are that close, or that a small drop will make much difference.

“I think there's an awful lot of faith being placed in one mildly improved OCR announcement that things are going to turn the corner,” McDonald says.

“The Reserve Bank's inflation target is 1% to 3%, so if it gets to 2.7% or 2.9%, do we really think they're going to rush to drop interest rates? Their history would suggest that they'll err on the side of conservatism.”

Even then, a 25 basis point reduction in interest rates is “not going to be a game-changer”, he says.

Westpac chief economist Kelly Eckhold believes the country may experience a two-speed recovery, with an initial bump in growth getting the economy back to where it was a few months ago, followed by a slower upward grind.

The Reserve Bank’s hawkish monetary policy statement in May appeared to dash hopes of a near-term cut in interest rates and caused businesses to adjust their plans, he says.

But the central bank’s more upbeat comments in July could help the economy climb out of that particular hole, he believes.

“If market expectations are borne out that interest rate cuts are coming before the end of the year, then we would hope to see some green shoots emerging in the last quarter of this year — with perhaps some of the confidence indicators, rebounding a little bit sooner than that.”

The proportion of households that are due to refix their mortgages in between three and six months is at a recent record of 19%, which means many borrowers should be well positioned to take advantage of lower mortgage rates when they do arrive, he says.

Some business owners have been keeping their spirits up by bandying about the slogan “thrive in ‘25”.

“We're probably still in the ‘survive to 2025 world right now’, but I think things will be better in 2025,” Eckhold says.

“’Thrive’, could be something that happens closer to the second half of next year, rather than the first.”

ANZ chief economist Sharon Zollner agrees a quick bounce of sorts can be expected, simply given the depth of the doldrums in June.

“Mathematically, all else being equal, the weaker the starting point, the easier it is to bounce.”

She expects the recovery to be seen first in the housing market.

“There's a new perception it is now absolutely given that rates are going to fall.

“So if you've been on the fence about whether to buy your first home, we're now in the world where you might say ‘if I can handle rates today then I'm OK’.

But how many such people are sitting on the sidelines is a big unknown, she says.

Overall, Zollner tips a “very patchy” economic recovery, that won’t be felt everywhere, immediately.

“Wellington's going to continue to struggle more than most because of job cuts but, generally, the labour market does lag the broader economy so it's typically one of those things that feels worse, even when it starts to get ‘better’,” she says.

“GDP is going to recover before the person in the street believes that the economy has turned — that's typically the way that it goes.”

Zollner warns the Government’s tight fiscal situation will be a drag on any recovery and both she and Eckhold see snakes as well as ladders lurking.

Concerns over power prices and gas shortages are one risk, she agrees.

“There's an emerging school of economics that just talks about economies as ‘energy transformed’.

“So the German manufacturing powerhouse was built on cheap gas from Russia, US ‘exceptionalism’ was built on shale oil. So, yes, this stuff does matter.”

Eckhold notes geopolitical risks to any recovery continue to abound.

“Trump, if he gets elected, has the potential to have some trade policies that could have some significant implications.”

More broadly, financial markets can be volatile, and the New Zealand dollar has been losing ground, he says.

“If that was to continue, that will be difficult for the Reserve Bank, given that it has been relying quite a lot on traded-goods disinflation to get inflation down — and if the exchange rate falls, that's going to be harder to expect.”