New Zealand Housing Bubble At Risk From RBNZ Super-Hawks

The knives are still out for policy doves globally, notwithstanding the first nods to a potential “pause” in the Fed’s hiking cycle in September.

New Zealand on Wednesday ramped up its “path of least regrets” strategy, which the central bank describes as a preemptive fight to head off rising inflation expectations.

RBNZ’s 50bps move at the May meeting was the fifth straight hike and the second consecutive oversized increment. Last month’s 50bps move was the largest since 2000. We now have two 50bps increments in a row (figure below).

The policy statement, if it emanated from the Fed, would likely be cheered in many corners. “Consistent with the economic outlook and risks ahead, monetary conditions need to act as a constraint on demand until there is a better match with New Zealand’s productive capacity,” RBNZ said. “A larger and earlier increase in the OCR reduces the risk of inflation becoming persistent, while also providing more policy flexibility ahead in light of the highly uncertain global economic environment.”

Effectively, the bank views the situation as a race against the clock — a sprint to do as much as possible to realign supply and demand in the near- to medium-term, while explicitly recognizing that the outlook for growth is deteriorating in real time.

“The level of global economic activity is generating rising inflation pressures, exacerbated by ongoing supply disruptions driven by both COVID-19 persistence and the Russian invasion of Ukraine. The latter continues to cause very high prices for food and energy commodities,” the statement said, before noting that “the pace of global economic growth is slowing.” Spending around the world is likely to decelerate due both to the “broad-based tightening in global monetary and financial conditions [and] the high costs of basic food and energy staples.” RBNZ described China’s COVID restrictions as “adding cost and complexity to trade.”

As a reminder, all of New Zealand’s relevant inflation gauges are above the upper band of RBNZ’s target range, and while five-year and 10-year expectations remain well-anchored, one- and two-year expectations are unmoored.

The new OCR path signals a terminal rate of 4%. OCR will be 3.25% to 3.5% by year-end. Some suggested the bank is on the brink of overstepping. Adrian Orr sees neutral at between 2% and 3%, so if there’s a global race to neutral, RBNZ just won. “We would say that monetary conditions and financial conditions as a whole are now at least neutral if not tightening,” Orr said Wednesday. “The actual interest rates that people receive are significantly above the OCR.”

The new rate path implies another 200bps of hikes through year-end 2023, by which point at least some major economies will almost surely have experienced a recession. On the domestic front, there’s palpable concern that RBNZ will end up triggering a painful correction in housing. The bank is aware of that. And acutely so. “While a gradual decline in house prices to more sustainable levels is desirable from a financial stability perspective, a sharp correction remains a plausible outcome that would have broad economic implications,” RBNZ said earlier this month, in its semi-annual Financial Stability Report. “A large fall in house prices would significantly reduce housing wealth and could lead to a contraction in consumer spending, especially when combined with borrowers cutting back discretionary spending due to rising interest rates and higher living costs.”

“The bulk of the house price impact from the mortgage rate surge is yet to come. Around 60% of all mortgages rates will be reset over the coming 12 months,” ASB said, in a recent note. The bank sees a 9% drop in home prices nationwide this year, and more losses in 2023. “All told it’s around a 12% peak-to-trough decline [which] would only take house prices back to where they were in early 2021, with prices still some 27% higher than the start of the pandemic,” the bank added, before noting that in inflation-adjusted terms “we’re talking about a 20% correction, which would be the largest decline since the 1970s.” On Wednesday, ASB said it now sees RBNZ hiking 50bps in July and August. “We expect demand to buckle in response to higher rates a little sooner,” the bank remarked.

Housing accounts for around half of the assets of New Zealand households. The figure (above) gives you a sense of the market.

At least a few forecasters who counted themselves hawkish headed into Wednesday’s meeting found their projections for New Zealand’s hiking cycle suddenly on the dovish end of spectrum. Consensus will now need to decide how short of 4% RBNZ is likely to fall — because it didn’t sound as though anyone, besides RBNZ anyway, believed the bank’s new terminal rate signaling is realistic.

“We start to suspect [they] might have gone too far on the hawkish side with rate projections and could struggle to deliver on them, especially if we see considerable cooling in the New Zealand housing market and a generalized global slowdown,” ING said. “That, however, is a story for the long run. In the short term, we have a near-guarantee that RBNZ will deliver two more half-point hikes this summer,” the bank added.

Also on Wednesday, RBNZ published new residential mortgage lending data for April. Last month’s 13,939 new mortgage commitments were the third-lowest ever (figure below).

Lending to first-home buyers dropped 34% YoY last month. It was the fifth straight decline on a 12-month basis and the second largest since data collection began.

The account of May’s policy meeting, published concurrent with the decision, noted that policymakers “discussed their ‘least regrets’ framework.” “The Committee agreed that at present, with persistent cost pressures and rising inflation, the risk of moving too slowly and not far enough remained the most costly option,” the summary said.