Inflation moving back into focus

Economic growth tipped to hit 3.5% next year

Expect to see the focus go back on inflation when Reserve Bank governor Graeme Wheeler delivers his monetary policy statement on Thursday, but don’t expect to see any moves on interest rates for some time yet.

After inflation surprised on the upside in the March quarter, economists are expecting the RBNZ to revise its interest rate track closer to market expectations.

On Friday the RBNZ released the results of its survey of inflation expectations. It showed firms lifting their expectations for inflation over the next two years above 2 per cent for the first time since 2015.

The market has priced in a rate rise for March next year while the Reserve Bank’s February forecasts indicated it might be late 2019 or even 2020 before the official cash rate is lifted from 1.75 per cent to 2 per cent.

“The RBNZ will have to acknowledge how conditions have changed in the last three months,” Westpac’s Michael Gordon noted in his preview.

But despite market expectations, economists at Westpac, ASB and Kiwibank are all picking the OCR is more likely to rise in late 2018.

“Since the February MPS we have seen both growth and inflation data which provide the RBNZ with new starting points for its forecasts,” Kiwibank chief economist Zoe Wallis notes.

“The New Zealand economy expanded at a pace of 2.7 per cent year on year over 2016 — weaker than the RBNZ’s forecast for growth of 3.5 per cent in quarter four of 2016.”

But while growth weakened, inflation jumped to the highest level seen since 2011.

The headline CPI increased by 1 per cent for the quarter, taking annual inflation up to a pace of 2.2 per cent year on year.

The consensus of economists’ views is that the spike in inflation is short term and that it will ease slightly over the coming year without falling back out of the target band, below 1 per cent.

However economic growth is expected to stay strong, with ASB’s latest quarterly outlook picking the rate will top 3.5 per cent next year.

ASB sees consumer spending, migration and improving export volumes continuing to propel GDP growth from around 3 per cent through the rest of this year to 3.5 per cent by the middle of next year.

However, some headwinds remain.

Outside of Auckland and Welling- ton construction growth is expected to slow.

Elsewhere the economy is likely to bump up against capacity constraints.

The tourist sector was facing accommodation pressure which, despite increased investment in the hotel sector, would take several years to resolve.

The labour market was also tightening and ASB forecasts said it would continue to do so.

The unemployment rate dropped to 4.9 per cent in the March quarter and will fall to 4.6 per cent by December, according to the quarterly outlook.

“Employers are reporting increased difficulty in finding labour,” the report says.

“A tighter labour market will see wage inflation lift over the next three years.”