The Prime Minister and his finance minister yesterday more or less claimed victory and job done with the news that the Reserve Bank was finally lowering the Official Cash Rate.
Within minutes of the Bank’s announcement, trading banks began to lower mortgage rates, and the Prime Minister, whose party derives much of its support from property owners in the suburbs, was quick to express his relief.
“The plan is beginning to work,” he said.
“Now that we’re making real progress in the fight against inflation, our focus will shift to the next task, which is creating conditions for economic growth.”
But how much of the move the Government really could claim credit for was debatable.
Reserve Bank Governor Adrian Orr was hardly much help. The best he could do was to say that success had 1000 fathers”.
However, the minutes of the Bank’s Monetary Policy Committee meeting to decide the cut show that it was the weakness of the economy that drove the decision.
The Committee noted that the weakening in domestic economic activity observed in the July review has become more pronounced and broad-based.
“Headline inflation has declined, and business inflation expectations have returned to around two per cent at medium longer-term horizons,” the Committee said.
“Committee members agreed that monetary policy restraint can now begin to ease.”
In other words, Orr had managed to “cool the jets” as he had promised back in November 2022.
That in itself begged the question as to whether the cooling had caught the Bank by surprise.
In its May Monetary Policy Statement, the Bank forecasted 0.5 per cent growth for the current quarter. That has now been lowered to negative 0.2 per cent, and the May forecast of 0.5 per cent growth for the December quarter has been lowered to 0.1 per cent.
In a newsletter, Kiwibank’s economics team described the Bank’s changes as “a complete 180 on their forecasts from May.”
The Monetary Policy Committee didn’t sound too sure as to why things had turned around.
“The Committee discussed possible reasons for the current economic weakness,” their meeting minutes said.
“Alongside restrictive monetary policy, an earlier or larger impact of tighter fiscal policy could be constraining domestic demand.
“Falling net migration may also be playing a role.”
The question of fiscal policy was one that the Prime Minister was delighted to address.
“When we first started talking about inflation in the early days of Nicola (Willis) and I actually becoming the leaders, we said we have to get our fiscal setting straight and square,” he said.
“And the answer is very simple.
“We had to get government spending under control and the books in order so that you can actually put downward pressure on inflation.
“We did our job as part of our fiscal response, which is the bit that we’re responsible for.
“The Reserve Bank has done its part about interest rates, which is the monetary policy.
“So those two bits coming together, working together, put downward single-minded focus on lowering inflation.”
However, there are persistent questions about whether the Budget tax cuts made that task more difficult.
In the Monetary Policy Statement, the Monetary Policy Committee said whether the cuts would boost inflation was “uncertain”.
The Statement itself said, “The net effect of government spending reductions and income tax cuts on inflationary pressure is uncertain.”
That uncertainty is largely a product of the fact that the cuts have only started arriving in people’s pay packets this month.
So, the impact of the cuts is going to be more obvious and “certain” in Monetary Policy Statements over the next year.
The former Reserve Bank economist and “Croaking Cassandra” blogger, Michael Reddell, clearly believes they will turn out to be inflationary.
He tweeted, “Without the tax cuts, one would have expected to see somewhat deeper OCR cuts projected over the coming year.”
Regardless, the Bank is now forecasting cuts every quarter until the end of March 2027, by which point the OCR will be at 3.1 per cent.
To get there the Government will have to hold its nerve on tightly constrained spending.
Next year’s Budget Operating Allowance was forecast in the Budget to be $2.4 billion, $800 million below the $3.2 billion from this year.
But Willis told Parliament last week that less than a billion dollars remain in the operating allowance for Budget 2025.
“Clearly, managing within that remaining allowance will require tight controls on new spending,” she said.
“It is also important to remember that allowances are a net concept: they include savings initiatives as well as new spending, and revenue increases as well as tax relief.
“So, any savings or new revenue initiatives will boost that billion-dollar figure.
“As I said in the Budget speech, savings and reprioritisation will be a feature of future Budgets, just as they were in Budget 2024.
“Finding better ways to use public money will be a business-as-usual activity for this Government.”
She has already pre-committed $1.37 billion for new health spending.
That may not be enough.
Health NZ is forecasting a $1.3 billion deficit before it deals to the Government’s target of decreasing waiting lists.
The Government Health NZ Commissioner, Dr Lester Levy, told a Health NZ “Virtual Hui” yesterday that the organisation had a significant financial issue.
“We’re spending way beyond our budget,” he said.
“And what we need to do is live within our means as most people do and most organisations do.
“Of course, if you don’t live within your means, you run out of cash, and that’s our biggest problem; our cash runway has now become compromised, and we need cash to be able to meet our commitments.
“So this is a very serious situation and should not be trivialised in any way.”
Levy said the situation had to be fixed, “and it’s not going to be easy.”
What is also clear from yesterday’s Reserve Bank statement is that one of the prices the country will have to pay to get interest rates down will be higher unemployment.
The Bank expects that to peak at 5.4 per cent in the first half of next year.
(It was 4.6 per cent at the end of June).
But Luxon believes all of this, the constrained spending and the higher unemployment, will be worth it.
In what is becoming a regular refrain, he suggested journalists needed to “get out of this place” and talk to a person who had a mortgage and who would have seen a “massive” increase in their mortgage over the past two years.
“You’ve got to talk to hardworking Kiwis on low, middle incomes that are struggling to get by, which is why we gave them tax relief,” he said.
“They’re going paycheck to paycheck just trying to pay for fuel, food, rent and mortgages if they are lucky enough to own a home.”
National knows its voters, and it knows they are feeling the cost of living squeeze; hence the tax cuts and hence the cheers from the Beehive yesterday for the Reserve Bank and lower mortgage repayments.
