Cracks in the economy

The Reserve Bank’s latest Financial Stability Report provides confidence our financial system can cope with major shocks, including a significant house price drop.

But dig deeper into the report and there is plenty to be concerned about in the context of higher interest rates, inflationary pressures and a slowing economy.

The Central Bank this week highlighted how a 30 per cent fall in house prices would send about 10 per cent of home loans into negative equity territory. While not forecasting that specifically, the report did say a sharp correction remains a “plausible outcome” and recent buyers would be most vulnerable.

It also noted many businesses are facing cost pressures as well as effects of the Omicron outbreak. Some will presumably have mortgages secured against their owners’ homes. “Similar to households, debt-servicing costs for businesses are increasing with interest rates,” the report said.

Noting the low starting point of interest rates and general deleveraging by businesses over the past few years, when combined with other cost pressures and reduced spending, some businesses were likely to become stressed, it said.

“In particular, we are monitoring the construction and commercial property industries, given the potential for further stress to emerge.”

The report would have been printed when news broke of the collapse of a sizeable commercial building business in Wellington.

Armstrong Downes Commercial went into liquidation on Monday, surprising some industry experts. “It happened fast and it’s a reflection of the unstable market,” one developer said. There are fears this could be the first major casualty as the market draws back.

Two other reports out this week also underline the Reserve Bank’s caution. First came data from credit agency Centrix, showing demand for loans and credit cards falling sharply, while those getting behind on payments for existing debt is on the rise. This was predictable.

But the extent of the pullback in credit card demand — down 35 per cent — is especially telling. Some of that can be attributable to the rise of buy now, pay later, but clearly inflation and interest rates are starting to curb consumer spending.

The second report, from real estate agency Barfoot & Thompson displayed a dramatic decline in sales in April, with selling prices also dropping.

The agency sold just 615 residential properties in April, down 44 per cent from a year ago.

With the Reserve Bank forced to raise the official cash rate to try and curb inflation, recent buyers could face a stressful year. At least the labour market is tight and unemployment low. But the patterns indicate some big cracks in the economy.