Economic Rapid escalation - August 2021 - Westpac
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Economic Overview. Rapid escalation. August 2021
Economic Overview August 2021. New Zealand economy 01 Global economy 04 Inflation and the RBNZ 06 Agricultural outlook 08 Exchange rates 09 Special topic: Life after vaccination 10 Economic and financial forecasts 11 The economy in six charts 12 Contributing authors Michael Gordon Satish Ranchhod Nathan Penny Paul Clark Gregorius Steven Acting Chief Economist Senior Economist Senior Agri Economist Industry Economist Economist +64 9 336 5670 +64 9 336 5668 +64 9 348 9114 +64 9 336 5656 +64 9 367 3978 Note from Michael. Our forecasts have been through some rapid changes since our May Economic Overview, as the New Zealand economy has revealed new facets to its post-Covid recovery. While our most regular readers won’t be too surprised by what they find here, it’s nonetheless a welcome chance to catch our breath and take stock of the landscape. We’ve noted for some time that Covid-19 has been constraining the supply side of the economy. That’s included rising prices for materials, disruptions to global manufacturing and shipping, and the loss of access to migrant workers due to the border closure. What was lacking, even up until a few months ago, was a sense that businesses were able to pass on cost increases, or to bid up pay rates to attract local workers. But that’s changed in a big way. It’s now clear that demand is running hot as well, and that means the stimulus the Reserve Bank provided last year to support the recovery is no longer needed. We expect the Reserve Bank to begin raising the OCR from its record low over the coming months. That would put it well ahead of its overseas peers, but that’s a fair reflection of the unique circumstances that New Zealand faces. Our Covid elimination approach has allowed the economy to gather a head of steam, more so than we’ve seen elsewhere. As we release this, I will have just had my first Covid jab. Mass vaccination is going to be crucial to the quality of life that we can enjoy in the coming years. But as the more contagious Delta variant grips the world, it’s clear that the battle won’t end there. Our special topic looks at the additional measures we may need to consider here, based on what’s emerging overseas. Michael Gordon - Acting Chief Economist Text finalised 13 August 2021 ISSN 1176-1598 (Print) ISSN 2253-2897 (Online) For address changes contact: WNZResearch@westpac.co.nz
New Zealand economy.
Well, that escalated quickly.
The New Zealand economy has been charging ahead and has built up a head of steam. However,
the rapid turnaround in activity over the past year has left the economy grappling with significant
growing pains. At the same time, we are still wrestling with Covid-related headwinds.
The New Zealand economy has surpassed all expectations Of course, there are still some soft spots. Most notably, the
in recent months, with domestic activity growing in leaps continued closure of our borders has meant that spending
and bounds. The economy powered through summer even in sectors like travel, accommodation and entertainment
without the usual peak in tourists, and it looks to have gained still remains someway below pre-Covid levels. This has also
further momentum on top of that. There has also been a much meant that the recovery has been uneven across regions:
faster than expected tightening in the labour market, with international tourist hotspots like Queenstown have lagged
unemployment dropping to just 4% in the June quarter, equal regions which have a larger agricultural backbone and those
to the cycle low that we saw in 2019. that focus on providing services for the domestic economy.
Figure 1: Economic activity by sector, June years Overdrive.
Annual average % change Annual average % change
25 25 The economy is set to continue growing at a brisk pace
2018 2019 2020 2021(f) over the coming year, with businesses in the construction,
20 20
manufacturing and services sectors all reporting solid levels of
15 15
forward orders. The continuing, albeit tenuous recovery in the
10 10 global economy also bodes favourably for export earnings.
5 5
0 0
-5 -5 The extraordinary amount of stimulus
rolled out following last year’s
Source:
-10 Stats NZ, -10
Westpac
-15 -15
GDP
(production)
Household
spending
Residential
construction
Business
investment
Government
spending
Exports
lockdown is still flowing through the
economy’s veins.
Our strong economic performance over the past year owes
much to the fact that we’ve been able to effectively eliminate
Covid on our shores and keep it out. That’s allowed local Reinforcing this firm outlook for demand, fiscal spending
households and businesses to operate largely free from over the coming years is likely to be even higher than was
restrictions. At the same time, the extraordinary amount of assumed in the most recent Budget. The strength in economic
monetary and fiscal stimulus that was rolled out last year conditions has meant that, despite the large increases in
when the nation was in lockdown is still flowing through spending over the past year, the fiscal accounts are in much
the economy’s veins. Combined, these conditions have better shape than had been expected. That’s giving the
supercharged domestic demand: household spending has Government greater scope to pursue its social objectives,
surged, construction is booming, and across the business while still remaining on course to achieve its debt targets.
sector there has been a lift in trading activity, along with We expect the next few years will see increased spending on
increases in plans for capex and hiring. wages and salaries in the public sector, as well as on social
support measures. The Government could also increase its
And it’s not just domestically focused industries that are capital spending programme, adding to the large amount of
showing strength. As discussed in the Agricultural outlook infrastructure spending that is already planned.
section, we’re also seeing firm demand for our key commodity
exports, with export prices up 24% over the past year. Some With demand running hot, the spare capacity that developed
of the resulting lift in farm and orchard incomes is being in the wake of last year’s outbreak has been absorbed and
used for debt repayment. But we’re also seeing increases in signs that the economy is running hot are widespread. Wages
spending in the regions, along with a lift in rural land sales. and costs of production have been rising. Combined with firm
Economic Overview August 2021 | 01demand, that has resulted in a significant lift in consumer substantially lower than those we saw over the past decade,
price inflation to 3.3%, with a further rise expected over the with the Government having signalled its intention to tighten
coming year. We’re also seeing supply bottlenecks delaying entry requirements over time. As a result, we now expect
activity in a number of industries, including construction that the strength in demand will see unemployment fall to
and retailing. 3.5% by the middle of next year – its lowest level in more than
a decade. We also expect annual wage inflation will rise to
2.7%, with larger increases for many in-demand occupations.
Figure 2: Government consumption share of GDP
% of GDP % of GDP One of the other significant challenges that businesses
24 Labour National Labour National Labour
24 have been wrestling with are ongoing disruptions to global
1984-1990 1990-1999 1999-2008 2008-2017 2017-
23 23 shipping and supply chains. That’s resulted in deliveries of raw
22 22 materials failing to keep pace with orders in recent months.
It’s also contributed to shortages of many consumer goods as
21 21
household spending has picked up.
20 20
19 19 Disruptions to global manufacturing and shipping now look like
18 18
they will be more persistent than previously anticipated. The
Westpac spread of Covid and its variants continues to disrupt economic
17 forecasts 17
Source: Stats NZ, Westpac
activity in many regions, particularly in Asian economies that
16 16 are major producers of finished consumer goods. At the same
1987 1991 1995 1999 2003 2007 2011 2015 2019 2023
time, demand is picking up in large economies like the US,
and shipping companies have diverted capacity away from
The challenge that businesses have most frequently New Zealand towards more profitable routes.
highlighted is that it has become increasingly difficult to source
the labour that they need. This has been a particular issue The faster than expected turnaround in economic activity
in relation to workers with specialised skills in sectors like and emergence of strong inflation pressures means that the
construction and IT. However, reports of labour shortages have Reserve Bank can now start removing some of the stimulus it
been widespread across industries, skill levels and regions. introduced in the wake of last year’s lockdown. As discussed
in the Inflation and the RBNZ section, we think that a series of
Difficulties sourcing staff have been mounting ever since interest rate hikes is on the cards over the coming years.
the borders were closed last year. However, tightness in the
labour market isn’t just a supply side issue. The strength in Over time, increases in borrowing costs will slow the pace
economic activity has seen the demand for workers surging, of economic growth and dampen inflation. This will also
with labour turnover rising sharply as employers have bid up result in a change in the makeup of the economy through the
wages to attract staff away from other firms. middle part of the decade: government spending will account
for a larger share of activity, and private consumption and
investment a smaller share.
Figure 3: Proportion of businesses reporting a rise in staff
turnover (past three months)
Please keep your mask on at all times.
Net % Net %
40 40
Despite the economy’s enviable run over recent months, the
30 30
risks associated with Covid have not gone away. That point
20 20 was made very clearly in July, with the popping of the trans-
10 10 Tasman travel bubble.
0 0
For New Zealand, the continued spread of Covid and its more
-10 -10 virulent variants has a number of important implications. First
-20 -20 is that border restrictions are now expected to remain in place
-30 -30
for longer than previously assumed, with the suspension
Source: NZIER of the trans-Tasman travel bubble potentially extending
-40 -40
2000 2003 2006 2009 2012 2015 2018 2021
well beyond the initial 8 weeks that’s been stipulated. More
generally, widespread travel with other countries is unlikely
to open before mid-2022. And even then, border openings are
In response to the growing tightness in the labour market, likely to be gradual and on a selected risk-based basis. As a
the Government has made some changes to visa programmes result, industries that are closely linked to the international
for migrant workers who are already in the country and border, like tourism and accommodation, are likely to face
those coming as part of the Recognised Seasonal Employer tough trading conditions for some time yet.
programme. Even so, we won’t realistically see a material
easing in labour shortages until the borders are reopened to But it’s not just tourism and travel that will be affected by
new skilled migrants, and that is still some way off. Even when ongoing health concerns abroad. The flare up in infections
the borders do reopen, migration levels are likely to remain may mean that demand in some of our trading partner
02 | August 2021 Economic Overvieweconomies will take even longer to recover, adding to the We expect that house prices will continue to rise over the
challenges for our exporters of manufactured goods. coming year, but that the pace of increase will slow as
mortgage rates lift from their recent lows. Longer term,
The bigger question is what would happen if we had another mortgage rates are set to continue rising, back towards more
outbreak onshore. Over the past year, we have had periods average levels. After the recent period of very low mortgage
where the Alert Level was dialled up in some regions. While rates, that’s likely to take some of the steam coming out of
that did cause some disruptions, economic activity has proven the housing market. And combined with changes to the tax
to be fairly resilient, with increases in the Alert Level often system, the middle part of the decade is likely to see some
resulting in spending being delayed, rather than cancelled. modest price declines.
However, the Delta variant is proving to be more contagious
Figure 4: House prices and household spending
and harder to contain. Should it arrive on our shores, this raises
the risk that health restrictions could be imposed for longer Annual % change Annual % change
45 15
or that they are stricter than during previous incidents. That Source: QVNZ, Stats NZ, Westpac Westpac
would risk major disruptions to economic conditions and the 35 forecasts
10
labour market. It would also raise the possibility that additional 25
monetary and fiscal stimulus could be (re)introduced. 15 5
5
0
The house always wins. -5
-15 -5
The combination of record low interest rates and significant -25 Per capita consumption spending (right axis)
increases in fiscal spending since the start of the pandemic -10
-35 House prices (left axis)
has given domestic demand a powerful boost. That’s been
-45 -15
seen particularly clearly in the household sector, with retail 1995 2000 2005 2010 2015 2020 2025
spending now running well above the levels that prevailed
prior to Covid-19. Recent months have seen notable strength
in spending on household durables, like furnishings and The strength in house prices has also placed a rocket under
appliances. There has also been a pick-up in spending on the residential construction sector. Dwelling consent issuance
activities such as hospitality and dining out (which fell sharply has risen to record levels, and there is a very large pipeline of
following last year’s outbreak). work planned over the coming years. Much of this work will
be in Auckland, however homebuilding has been ramping up
Reinforcing the lift in households’ spending appetites around the country.
has been the strength of the housing market. Record low
mortgage rates have boosted demand from both owner The pickup in construction activity now in train follows an
occupiers and investors, and house prices have risen more extended period where home building failed to keep pace
than 30% over the past year. Gains have been widespread, with population growth. But with the borders now closed, net
with particular strength in central North Island regions like migration and population growth have plummeted. And with
Whanganui-Manawatu. the record amount of building that is occurring, the shortages
of housing that developed in many parts of the country over
the past decade are being eroded rapidly. Even when the
borders do open, the physical balance between demand and
Home building is surging, and the supply of housing is likely to look very different from what we
shortages that built up in recent years have seen for some time.
are now being rapidly eroded. Figure 5: Building consents and population changes
Number Number
140000 70000
The rapid pace of house price gains has exacerbated concerns Population (annual change, left axis) Westpac
forecasts
about housing affordability and the risks for financial stability. 120000 Consents (annual, right axis) 60000
In response, the Reserve Bank has already tightened loan 100000 Source: Stats NZ, Westpac
50000
to value lending restrictions twice this year, and a further
80000 40000
tightening has been proposed. In addition, the Government
has announced significant tax reforms that will erode the 60000 30000
incentives to invest in residential property.
40000 20000
The above changes are expected to have a dampening impact 20000 10000
on the housing market over time. However, to date their impact
0 0
has been limited, with prices continuing to rise at a brisk pace 2000 2005 2010 2015 2020 2025
in recent months. Notably, while investors have stepped back
from the market, owner-occupiers have filled the void.
Economic Overview August 2021 | 03Global economy.
The bumpy road to recovery.
The more infectious Delta variant of Covid is expected to be a bump in the road for our major
trading partners, but the underlying story is one of strengthening demand. Countries with higher
vaccination rates and a trend towards re-opening have not been as affected. Some countries are
seeing capacity pressures build as demand strengthens and some central banks have responded
by becoming more hawkish.
The spread of the more infectious Delta variant has changed In contrast, the Delta variant has put a spanner in the works of
our expectation for growth among New Zealand’s main China, Australia, and neighbouring Southeast Asian countries’
trading partners. On balance, we expect the Delta variant elimination strategies. Cities and regions in many of these
will prove to be a bump in the road to recovery, rather than countries have returned to lockdown, and there has been
signalling an outright change in trajectory for global growth. a subsequent impact on economic activity and a lowering
As a result, we have lowered some of our growth estimates of growth forecasts. These events are in stark contrast to
for 2021, but have offset those changes by lifting growth 2020 when countries in the region were held up as Covid
over 2022. containment success stories.
Despite a downgrade for growth in 2021 to 6.1% from 6.5%,
the overall picture for the US has stayed relatively constant,
The Delta variant is expected to be a and our forecast for growth in 2022 has been upgraded to
bump in the road to recovery rather 4.3% from 4.1% previously. Part of this is due to a similar story
as Europe and the UK of higher vaccination rates and a change
than signalling a change in trajectory. in strategy towards learning to live with Covid.
Figure 7: Global GDP growth
Looking across our main trading partner economies, growth
projections for Europe and the UK have been revised higher Annual average % change Annual average % change
12 12
due to the easing of Covid restrictions and a lower likelihood 10
2018 2019 2020 2021(f) 2022(f)
10
of more stringent lockdowns in the future. This is because 8 8
of high vaccination rates and a change in strategy towards 6 6
learning to live with Covid, rather than elimination. European 4 4
GDP growth has been upgraded to 4.5% (from 4.2%) and 2 2
4.4% (from 4.0%) for 2020 and 2021 respectively. 0 0
-2 -2
-4 -4
Figure 6: Global Purchasing Manager Indices -6 -6
Source: IMF,
-8 Stats NZ, -8
Westpac
Index Index
60 60 -10 -10
New Zealand US Europe China Other Asia
55 55
50 50
While it is still early days, the recent divergence between
45 45
economies in the Western hemisphere and those in the Asia-
40 Manufacturing 40 Pacific highlights the importance of effective vaccines and
35 Services 35 high vaccination rates, as well as the importance of strategies
30 30 for learning to manage Covid long term (we discuss this more
25 25
in our Special topic).
Source: Bloomberg, J.P. Morgan
20 20
Aug 2018 Feb 2019 Aug 2019 Feb 2020 Aug 2020 Feb 2021 Aug 2021
Financial markets have largely shrugged off the recent flare
ups in Covid with long-term bond yields falling since the May
Economic Overview. However, this doesn’t appear to be driven
04 | August 2021 Economic Overviewby a shift in monetary policy expectations, but rather growing High vaccination rates and a change of strategy towards
confidence that central banks will do what is needed to keep reopening has been supportive of the US labour market, and
inflation in check. This has been corroborated by the rise in this has helped boost incomes and demand in the economy.
short-term interest rates as central banks in some regions The combination of much stronger than anticipated demand
have begun to contemplate removing stimulus as demand has and continued supply constraints has put pressure on prices
picked up. and wages. This strength has come from a strong consumer,
business investment, and residential investment.
Figure 8: 10-year government bond yields
Figure 9: Share of population who have received at least
% % one Covid-19 vaccine
2.00 2.00
US Germany
1.50 UK Australia 1.50 % %
70 70
Source: Our World In Data
1.00 1.00 60 60
0.50 0.50 50 50
40 40
0.00 0.00
30 30
-0.50 -0.50
Source: Bloomberg
20 20
-1.00 -1.00
Apr 2020 Jul 2020 Oct 2020 Jan 2021 Apr 2021 Jul 2021 10 10
0 0
World US Europe China Australia NZ
An important pivot came from the US Federal Reserve in their
June statement which hinted at tightening policy. As a result,
we’ve moved forward our expectations of the Fed reducing Another place where consumers have played a major role in
their bond buying programme and raising interest rates. This the recovery is China. Part of this has been a result of being
largely reflects the US growth story remaining intact. able to re-open quickly, which meant growth has picked
up sooner. As the world continues to open up, Chinese
Despite the reinstatement of lockdown restrictions, the consumers should see incomes rise as global trade increases.
RBA did not ease policy or delay their plan to reduce bond In addition, stronger than expected investment by the private
purchases in September. This contrasted with financial market sector highlights the confidence of businesses and the
expectations that the RBA would delay their reduction of bond financial sector in funding them. Measures of credit expansion
purchases. The RBA’s actions highlight their assumption that remain supportive and are around 2019 levels.
the recent lockdown is a bump in the road to recovery, rather
than a directional change for the economy. Despite the strength of the Chinese economy since the initial
Covid outbreak in 2020, there remains the risk of further
sudden sharp lockdowns in China and neighbouring countries.
For example, Wuhan has gone back into lockdown as the
Central banks have been more hawkish authorities try to contain the spread of Delta. Neighbouring
indicating their willingness to keep countries like Indonesia have also returned to lockdown.
inflation at bay. Australia, which had been a model for getting Covid under
control, has also recently returned to lockdown. As Australia
has one of the lowest vaccination rates, this highlights the
The ECB on the other hand has continued to signal that ongoing economic risk posed by Covid, especially given the
monetary policy will remain accommodative. They are more adverse impacts of the variants that have emerged.
concerned about derailing growth by tightening policy
too early. However, the Pandemic Emergency Purchase Prior to the outbreak of the Delta variant, the Australian
Programme, put in place when Covid emerged in 2020, is only economy was recovering firmly. The economy overall was
set to run until March 2022 and is not being renewed. As a facing capacity constraints which led to increased cost
result, we expect a reduction in the rate of purchases under pressures. Accommodative fiscal policy has supported
this programme in September. business investment and residential investment. Along
with strong consumption, this has led to a tightening
The Fed has shown greater confidence in the US economy, labour market.
forecasting unemployment to fall below its long run average
over the next two years. This signals that the labour market
is expected to tighten, which should lead to wage inflation.
This was an important development as wage inflation could
transmit into a feedback loop of a rise in general prices,
leading to sustained inflation.
Economic Overview August 2021 | 05Inflation and the RBNZ.
No regerts.
Covid-related supply constraints are now being compounded by strong domestic demand, and
recent price pressures could become more sustained if left unchecked. As a result, we expect the
Reserve Bank to start removing policy stimulus over the coming months. That does carry risks, as
the world continues to grapple with Covid. However, the Reserve Bank has judged that the risk of
waiting too long is even greater.
At the time of our last Economic Overview, there was no Where price rises came through most consistently wasn’t in
shortage of stories about firms facing rising cost pressures the more import-heavy components, but in labour-intensive
and difficulties in finding labour. What was missing, though, services. That highlights the extent to which labour shortages
was a sense that they were able to pass these costs on to their and wage pressures have built up in recent months. It also
customers, or that they were in a position to pay up to attract represents a source of inflation that’s potentially more
workers. Indeed, inflation remained subdued in the March persistent and harder to dislodge.
quarter, as did wage growth.
Figure 11: Selected labour-intensive services in the CPI
Since then the situation has changed rapidly. As we detail in
the New Zealand economy section, domestic demand has % %
6 6
built up a real head of steam. It remains the case that some of Source: Stats NZ, Westpac
Quarterly
the sources of cost pressures (such rising commodity prices, 5
Includes dining out, clothing services,
household services, vehicle repairs, 5
global supply chain disruptions and higher shipping costs) Annual vet services and hairdressing
are likely to be temporary, or at least non-repeating. But 4 4
when these kinds of supply-side factors run up against strong
3 3
demand, they can provide the spark for a more sustained
period of higher inflation – unless that is met by a central 2 2
bank response.
1 1
This intersection of supply constraints and strong demand
has been evident in the recent data. Consumer prices rose 0 0
2007 2009 2011 2013 2015 2017 2019 2021
by 1.3% in the June quarter, lifting the annual inflation rate
to 3.3%, the highest in a decade. There were some especially
large contributions from a few categories, such as petrol and We expect annual inflation to peak at 3.8% in the September
newly-built homes. But the various measures of ‘core’ inflation quarter this year, and to remain above 3% through to the early
were also on the higher side of the Reserve Bank’s target. part of next year. Some of that strength is due to base effects:
the sharp rise in prices in the June quarter will boost the annual
Figure 10: Consumer price inflation rate for the coming year, just as the price falls during the Covid
lockdown kept the annual rate low over the previous year.
Annual % Annual %
6 6
Westpac
forecasts
5 5
We expect inflation to settle around
4 4
the RBNZ’s target from late 2022 –
3
RBNZ target band
3 conditional on higher interest rates.
2 2
1 1 As we move towards the end of 2022, we expect inflation to
0
Source: Stats NZ, Westpac
0
settle around the 2% midpoint of the RBNZ’s target band,
2005 2007 2009 2011 2013 2015 2017 2019 2021 2023 2025 which itself would be a more sustained period of inflation
than we’ve seen for some time. However, those forecasts are
06 | August 2021 Economic Overviewpredicated on a rise in interest rates over the next few years; there is nothing to stop the RBNZ from immediately reversing
in the absence of action by the RBNZ, there would be a greater any rate hikes it had made. Again, the economic cost of a brief
risk of inflation expectations becoming unanchored, and a period of higher interest rates would be minimal, and the
spiral of larger wage and price increases taking hold. ‘regret’ would largely be felt by the RBNZ itself in terms of the
cost to its reputation.
In light of these risks, we’ve significantly brought forward
our forecasts of interest rate hikes since our last Economic The RBNZ has already ended its Large-Scale Asset Purchase
Overview. We expect the RBNZ to increase the OCR by 25 basis programme, almost a year ahead of plan. Ending the
points at each of the next three reviews in August, October and programme itself didn’t amount to a meaningful tightening of
November, which would take the cash rate to 1% by the end policy, as the pace of purchases had already been scaled back
of this year. (With the August review looming as we publish, significantly over recent months. The RBNZ has suggested
we should note that our general view on the path of monetary that its holdings of government bonds will continue to have an
policy doesn’t rest crucially on what happens on that date.) easing effect on financial conditions even after the purchases
have stopped. But we’re sceptical of this – even before the
Further ahead, we expect a more gradual series of hikes over programme ended, there was little evidence that the yield
the next couple of years, with the OCR reaching a peak of curve was being held down lower than normal relative to the
2% in late 2023. This is broadly in line with what the RBNZ level of the OCR.
considers to be a ‘neutral’ level for the cash rate. At this stage
we don’t think it will be necessary to go above neutral in the We expect that OCR hikes will be transmitted as normal
current cycle, but that will depend on how successful the through to the longer-term interest rates faced by borrowers
upcoming hikes are in dampening demand pressures and and depositors. Mortgage rates for the most popular fixed
house prices. terms have already started to rise in anticipation, and we
expect a typical two-year mortgage rate to reach about 4%
The speed at which market opinion has turned towards by the end of next year. That would take them back to where
imminent OCR hikes has raised a few eyebrows. Hiking now they were in early 2019 – not too onerous for most existing
would put the RBNZ far ahead of its peers – we expect the US borrowers, but high enough to substantially change the
Federal Reserve to hold off until late 2022, and the Reserve arithmetic for future house purchases compared to what
Bank of Australia until early 2023. What’s more, the world we’ve seen in the last year or so.
economy is still grappling with newer and more dangerous
variants of Covid-19. And if an outbreak were to happen here,
Figure 12: OCR and two-year mortgage rate forecasts
while our level of vaccination is still low, it’s likely that we’d be
plunged back into a strict lockdown. % %
8 OCR 8
Westpac
forecasts
Indeed, we were surprised by the RBNZ’s hawkish turn at its 7 Two-year fixed mortgage rate 7
July monetary policy review. Since the onset of Covid, the 6 6
RBNZ has described its policy decisions in terms of a ‘least
5 5
regrets’ framework. Initially, that meant doing everything
that it could to support the economy’s recovery; earlier this 4 4
year, it meant waiting until it was certain that inflation and 3 3
employment were on track before tightening. But by July signs 2 2
of a faster than expected pickup in demand were widespread.
1 1
As a result, the RBNZ concluded that the risk of waiting Source: RBNZ, Westpac
too long, and letting inflation pressures get out of hand, 0 0
2010 2012 2014 2016 2018 2020 2022 2024
outweighed the risk of another Covid shock in the near term.
Financial market forecasts (end of quarter)
The RBNZ has concluded that the risks
CPI 90-day 2 year 5 year
of waiting too long to deal with inflation inflation
OCR
bill swap swap
outweigh the risks of another Covid Sep-21 3.8 0.50 0.90 1.30 1.60
shock in the near term. Dec-21 3.4 1.00 1.10 1.40 1.75
Mar-22 3.2 1.00 1.20 1.50 1.90
Jun-22 2.3 1.25 1.35 1.60 2.00
The difficulty with a ‘least regrets’ approach is that it’s Sep-22 1.9 1.25 1.45 1.70 2.10
subjective; two reasonable people can come to opposite Dec-22 2.1 1.50 1.60 1.80 2.20
conclusions. On the one hand, waiting a few months would Mar-23 2.0 1.50 1.70 1.90 2.30
make little difference in terms of economic outcomes, but it
Jun-23 1.8 1.75 1.85 2.00 2.40
would make a big difference in terms of our vaccination rate
and our ability to deal with a Covid outbreak. On the other Sep-23 1.8 1.75 1.95 2.10 2.50
hand, if New Zealand were forced into a Covid lockdown, Dec-23 1.9 2.00 2.10 2.15 2.55
Economic Overview August 2021 | 07Agricultural outlook.
Passing the baton.
Overall, agricultural commodity prices are at record highs. However, the price baton is passing
between export sectors as the global economic recovery gathers steam. In short, we believe that
it’s the meat sector’s turn to shine.
Commodity prices hit fresh record highs in each month from Dairy farmers have thus had time to respond to improved
March through June, and were higher again in July with the prices. New Zealand autumn production was massive. For the
exception of dairy. three months to May, production jumped a whopping 10%
on the same three months a year ago. This massive increase
We are now seeing the price baton passing between export in supply explains most of the price correction. And with this
sectors, with the prices for some premium products heating price fall coming earlier than we expected, we have trimmed
up as the global recovery gathers steam. Notably, the exports our 2021/22 farmgate milk price forecast down to $7.75/kg.
that rely on food service outlets are receiving a boost as more
people get vaccinated and then return to restaurants, pubs Forestry prices have also been hot, setting a record high in
and cafes. June. This strength has been due to a combination of surging
Chinese demand and tight supply, including the Chinese ban on
As such, we think it’s the meat sector’s turn to shine. In Australian timber. However, high shipping costs are eating into
August, (prime) beef and lamb prices cracked $6.00/kg returns, and we expect little relief on this front in the short-term.
and $9.00/kg, respectively. Similarly, venison prices have
jumped nearly $0.70/kg since May, while fine wool prices have Horticulture also continues to benefit from very high prices.
bounced back to pre-Covid levels. Over the rest of 2021, we However, kiwifruit supply is lifting strongly, and prices have
expect overall meat and wool prices to make further gains, eased a touch. While apple prices are holding up better, on
with beef and lamb prices set to hit record highs. balance, we expect horticulture prices to drift lower from here.
Meanwhile, dairy commodity prices are taking a back seat. Over the coming months, we expect commodity prices to
Overall dairy auction prices have now fallen for eight auctions recede from their record highs, as lower dairy prices offset
in a row. Although, recall that dairy prices recovered from strength elsewhere. From 2022, we expect to see a more
their Covid hit early, with prices surging by over 40% in late uniform agricultural supply response and for overall prices to
2020 and early 2021. moderate. However, despite this moderation, prices are set to
remain historically high through 2022.
Commodity price monitor
Next 6
Sector Trend Current level 1
months
Strong New Zealand production and Delta variant concerns have put a dent in high global dairy prices. We’ve
Dairy Above average
trimmed our 2021/22 forecast to $7.75/kg.
Prices are on the up and with more and more people vaccinated we expect that global beef demand will rise,
Beef Average
with prices likely to set record highs.
With more and more people vaccinated, we expect global lamb demand to rise further. With lamb prices
Lamb/Mutton High
already at $9.00/kg, $9.50/kg is in sight.
Prices have steadily increased this year. However, high shipping costs are eating into returns, and we expect
Forestry High
little relief on this front in the short-term.
To date, kiwifruit prices have eased on extra supply, but remain very high. With a smaller crop, apple prices
Horticulture High
are holding up at very healthy levels.
Prices have turned up decisively on improved global demand. Fine wools have jumped back to pre-Covid
Wool Low
levels and coarse wool prices are lifting too.
1 NZ dollar prices adjusted for inflation, deviation from 10 year average.
08 | August 2021 Economic OverviewExchange rates.
Fundamentals will come to bear.
The New Zealand dollar has faced headwinds in recent months, but this is expected to reverse
in the near term. Strong economic fundamentals are leading to capacity pressures, and a more
hawkish RBNZ provides upside risk for the currency. Interest rate differentials and commodity
prices are also expected to be supportive of the kiwi.
The New Zealand dollar has drifted lower since the May has already tightened some aspects of monetary policy, and is
Economic Overview. Most of the fall has been due to a strong expected to increase interest rates in the next few reviews.
US dollar, which has appreciated by about 3% against global
currencies. The rebounding US economy has underpinned USD Despite the re-emergence of Covid in Australia, the AUD
strength, cemented by signals from the US Federal Reserve hasn't had a sharp depreciation against most currencies.
back in June that it was considering tightening policy settings. This could be because financial markets think that economic
activity will bounce back once lockdowns are lifted.
In addition, concerns about the spread of the Delta variant
have meant some countries are back in lockdown, including
Figure 13: NZ dollar exchange rate vs major countries
those in the Asia-Pacific region. This development led the
Asian Dollar Index, a basket of Asian currencies measured Index = 100 in Jan 2020 Index = 100 in Jan 2020
115 115
against the US dollar, down by about 1%. The AUD also
suffered, sliding 4.5% and dragging the NZD (down 2%) 110 110
with it.
105 105
The New Zealand dollar’s fall came despite the economy 100 100
gathering steam over recent months. This strength and an 95 95
associated uplift in inflation has meant that the RBNZ has
US dollar UK pound
taken the first steps to tighten monetary policy. Commodity 90 90
prices have also been very strong, and we discuss these Australian dollar Japanese yen
85 85
trends more in the Agricultural outlook section. Source: Bloomberg
Chinese yuan
80 80
Jan 2020 Jul 2020 Jan 2021 Jul 2021
However, we expect that eventually the NZD is likely to lift
on these fundamental factors. The New Zealand economy
is outperforming most of its peers. And, reflecting this
outperformance, the RBNZ is poised to lift the OCR in
advance of other key central banks. As a result, interest
rate differentials should provide a tailwind for the NZD, and
we have upgraded our NZD forecast over coming quarters Exchange rate forecasts (end of quarter)
despite an initially lower starting point.
NZD/ NZD/ NZD/ NZD/ NZD/
TWI
USD AUD EUR GBP JPY
We also expect that red hot commodity prices will continue
Sep-21 0.71 0.95 0.59 0.50 78.8 74.4
to provide support to the New Zealand dollar. New Zealand’s
overall commodity prices hit record highs in June. And while Dec-21 0.74 0.95 0.61 0.52 82.1 76.4
the price baton is now passing between dairy and meat export Mar-22 0.76 0.95 0.62 0.53 85.1 77.5
prices, we expect commodity prices to remain very high over Jun-22 0.77 0.94 0.63 0.53 86.2 77.9
the remainder of 2021 and into 2022.
Sep-22 0.77 0.94 0.64 0.53 86.2 77.7
The stronger outlook for the New Zealand economy has led Dec-22 0.77 0.94 0.64 0.53 87.0 77.6
us to upgrade our forecast for the NZD/AUD cross. Like the Mar-23 0.76 0.94 0.63 0.53 85.9 76.8
USD story, New Zealand is facing greater capacity pressures Jun-23 0.75 0.94 0.63 0.52 85.5 76.0
compared to Australia. Part of this has been our success in Sep-23 0.74 0.94 0.62 0.52 84.4 75.1
containing Covid, which has supported a faster recovery in
activity. The RBNZ is currently more hawkish than the RBA as it Dec-23 0.73 0.94 0.61 0.51 84.0 74.3
Economic Overview August 2021 | 09Special topic.
Getting to the pointy end: Life after vaccination.
New Zealand’s plan for dealing with Covid-19 depends crucially on a high level of vaccination.
But the more serious Delta variant means it’s likely that ongoing controls, as well as high vaccine
coverage, will be needed as we reopen our border. We consider some of the ways that this might
play out, based on what we’re seeing in other countries as they learn to manage Covid long-term.
(Vac)cine but not herd. vaccination this year, it’s unlikely that we’ll be able maintain
this pace every year. The flu jab is likely to be the model here
Widespread vaccination is central to the world’s fightback on an ongoing basis, with a focus on high coverage for the
against Covid-19. The ideal outcome would be to vaccinate older cohorts who are by far the most vulnerable.
enough of the population to reach ‘herd immunity’, the point
at which the virus’ reproduction rate falls below 1. Beyond this New Zealand will need to maintain its testing and contact
threshold, any outbreaks will tend to burn out on their own, tracing capabilities, and probably beef them up to handle the
as the virus won’t be able to find enough new hosts to spread return of overseas visitors. The ability to restrict movements
itself to. and large gatherings will remain part of the toolkit, though
they may only need to be used in a localised way.
At the start of the year, that goal looked challenging but
achievable. But it’s clear that the Delta variant is different The use of masks, and stay-at-home orders for people who
enough to change the game: it’s much more contagious, test positive, have proven to be helpful in reducing the spread
and vaccines are less effective at preventing infections of Covid. The tricky part is to what extent they should be made
(they are still highly effective, but not perfect, at avoiding mandatory, and if so, who bears the cost of enforcing them.
severe illnesses and deaths). Modelling shows that as Delta Stay-at-home orders would mean more absenteeism than
becomes the dominant variant, herd immunity would require we’ve had before, which will have implications for workplaces.
vaccinating over 90% of the population, which puts it out of
reach in practical terms.
Papers, please.
That’s certainly not reason to despair about the prospects of
The world is moving towards proof of vaccination as a
reopening our borders. What it does mean is that vaccination
requirement for international travel, and New Zealand
alone won’t be sufficient – enough of the population would
will inevitably need to align with this. This is actually quite
still be susceptible to the spread of Delta that it could lead to
complex, as it requires being able to verify documents that
unacceptable health outcomes. To avoid that, it’s likely that
have been issued by hundreds of national or state authorities.
additional controls will be needed on an ongoing basis. Such
The International Air Transport Association is working with
controls need not be onerous, and the cost of enforcing them
airlines to develop a global standard.
would be well worth it if they obviate the need for lockdowns.
More controversial is the idea of vaccine ‘passes’ for
In a way, the rest of the world is moving towards the same
internal movements, such as entering tourist attractions,
conclusion. The difference is that for most countries, that
large gatherings or indoor dining. Governments may be
represents a move towards reopening their economies and
understandably reluctant to impose this kind of segregation
fewer (but still some) restrictions, whereas for us it would
(though France is a notable early adopter). But it’s the
mean more restrictions compared to what we currently
private sector that is leading the way here, with the implicit
enjoy. Hence, we can look overseas as a guide to some of the
endorsement of their customers. In countries where the
control measures that might emerge here. The Government
majority of people have been vaccinated, surveys show that
has recently set out its preferred path towards reopening the
the idea of a Covid pass is fairly popular – once people have
border, but that could evolve as conditions change – as the
done what they can to protect themselves, they like the idea of
saying goes, no plan survives its first contact with the enemy.
not having to mingle with the unvaccinated. Increasingly, large
firms are also introducing vaccination requirements for their
There’s a growing view that Covid-19 will become endemic, and
employees. In part this is about getting workers back into the
like influenza, may require booster shots every year to deal
office safely, as support for working remotely is waning.
with new variants. And while we may be able to reach 80%+
10 | August 2021 Economic OverviewEconomic and financial forecasts.
New Zealand forecasts
GDP components Quarterly % change Annual average % change
Jun-21 Sep-21 Dec-21 Mar-22 2020 2021 2022 2023
GDP (production) 1.5 0.9 0.9 0.2 -2.9 6.4 3.1 2.6
Private consumption 0.3 1.7 1.3 0.0 -1.9 11.2 2.4 1.1
Government consumption 1.2 1.1 1.1 0.9 6.4 5.9 3.7 2.5
Residential investment 2.0 1.8 1.5 1.2 -4.1 19.9 4.7 0.6
Business Investment 1.7 0.6 -0.8 1.6 -9.0 12.1 4.1 5.1
Exports 9.7 1.0 1.6 0.0 -11.8 -2.8 7.1 7.8
Imports 4.8 2.0 1.5 1.2 -16.4 17.7 6.0 4.3
Economic indicators Quarterly % change Annual % change
Jun-21 Sep-21 Dec-21 Mar-22 2020 2021 2022 2023
Consumer price index 1.3 1.1 0.1 0.6 1.4 3.4 2.1 1.9
Employment change 1.1 0.5 0.4 0.3 0.7 2.6 1.5 1.7
Unemployment rate 4.0 3.8 3.7 3.6 4.8 3.7 3.5 3.7
Labour cost index (all sectors) 0.7 0.7 0.7 0.5 1.6 2.6 2.4 2.5
Current account balance (% of GDP) -3.3 -4.3 -4.6 -4.3 -0.8 -4.6 -4.4 -4.1
Terms of trade 3.6 1.0 0.8 -0.4 -1.6 5.6 -1.0 0.4
House price index 6.0 4.0 1.0 0.6 17.0 20.0 0.0 -3.6
Financial forecasts End of quarter End of year
Jun-21 Sep-21 Dec-21 Mar-22 2020 2021 2022 2023
90 day bank bill 0.27 0.90 1.10 1.20 0.27 1.10 1.60 2.10
5 year swap 1.19 1.60 1.75 1.90 0.31 1.75 2.20 2.55
TWI 74.7 74.4 76.4 77.5 72.9 76.4 77.6 74.3
NZD/USD 0.72 0.71 0.74 0.76 0.69 0.74 0.77 0.73
NZD/AUD 0.93 0.95 0.95 0.95 0.94 0.95 0.94 0.94
NZD/EUR 0.59 0.59 0.61 0.62 0.58 0.61 0.64 0.61
NZD/GBP 0.51 0.50 0.52 0.53 0.52 0.52 0.53 0.51
Net core Crown debt (% of GDP) 31.0 33.1 34.8 36.7 32.5 34.8 41.0 43.6
International economic forecasts
Real GDP (calendar years) Annual average % change
2017 2018 2019 2020 2021f 2022f
Australia 2.4 2.8 1.9 -2.4 4.2 4.5
China 6.9 6.7 5.8 2.3 9.3 5.8
United States 2.3 3.0 2.2 -3.5 6.1 4.3
Japan 1.7 0.6 0.3 -4.8 2.5 2.7
East Asia ex China 4.7 4.4 3.7 -2.4 4.6 5.0
India 6.8 6.5 4.0 -8.0 9.2 8.3
Euro Zone 2.6 1.9 1.3 -6.6 4.5 4.4
United Kingdom 1.7 1.3 1.4 -9.9 6.5 5.0
NZ trading partners 4.1 4.0 3.4 -1.8 6.2 4.9
World 3.8 3.6 2.8 -3.3 5.7 4.7
Economic Overview August 2021 | 11The economy in six charts.
New Zealand GDP growth New Zealand employment and unemployment
% % Annual % change %
15 Westpac
15 8 8
Employment growth (left axis) Westpac
Quarterly % change forecasts forecasts
10 10 6 Unemployment rate (right axis) 7
Annual average % change
5 5 4 6
0 0 2 5
-5 -5 0 4
-10 -10 -2 3
Source: Stats NZ, Westpac Source: Stats NZ, Westpac
-15 -15 -4 2
2004 2008 2012 2016 2020 2024 2004 2008 2012 2016 2020 2024
90 day bank bills, 2 year swap and 5 year swap rates Exchange rates
% % NZD exchange rate Index
10 10 1.00 85
Westpac
9 90 day bank bill rate 9
forecasts
0.90 80
8 2 year swap rate 8
75
7 7 0.80
5 year swap rate
6 6 70
0.70
5 5 65
4 4 0.60 Westpac
NZD/USD (left axis) forecasts
60
3 3 0.50
NZD/AUD (left axis) 55
2 2
0.40 TWI (right axis)
1 1 50
Source: RBNZ, Bloomberg, Westpac Source: RBNZ, Westpac
0 0 0.30 45
2004 2008 2012 2016 2020 2024 2004 2008 2012 2016 2020 2024
Official Cash Rate New Zealand house prices
% % % %
4 4 35 35
Westpac Westpac
Source: CoreLogic, Westpac
forecast forecasts
30 30
25 Quarterly % change 25
3 3
20 Annual % change 20
15 15
2 2
10 10
5 5
1 1
0 0
-5 -5
Source: RBNZ, Westpac
0 0 -10 -10
2010 2012 2014 2016 2018 2020 2022 2024 2004 2008 2012 2016 2020 2024
12 | August 2021 Economic OverviewContact the Westpac economics team.
Michael Gordon, Acting Chief Economist Paul Clark, Industry Economist
+64 9 336 5670 +64 9 336 5656
Satish Ranchhod, Senior Economist Gregorius Steven, Economist
+64 9 336 5668 +64 9 367 3978
Nathan Penny, Senior Agri Economist Any questions email:
+64 9 348 9114 economics@westpac.co.nz
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forecasts are based are reasonable, the forecasts may be affected by incorrect assumptions or by known or unknown risks and uncertainties. The ultimate outcomes may differ substantially from these forecasts.
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