Westpac says OCR could fall below 1 per cent this year, as export prices slide

Thursday, 25 July 2019

A sharp drop in log prices could lead to a reduction in harvests, which would put hundreds of jobs in the sector at risk.

A slowing labour market and falling export prices have prompted Westpac to warn the official cash rate could be slashed to below 1 per cent this year.

On Thursday Westpac New Zealand chief economist Dominick Stephens released a prediction that the Reserve Bank will cut the benchmark rate (OCR) at the next meeting of the monetary policy committee in August, then again in November.

Previously Westpac had predicted only one further cut in 2019.

Already predicting that house prices will pick up this year, Stephens said sharp drops in the OCR would likely push mortgage rates even lower, offering more support to asset prices.

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The New Zealand economy has been slowing for several years, but export prices had remained strong. In recent weeks though, there has been a drop in dairy prices, while logs have fallen in value by a quarter in a month.

Stephens said that because of the nature of forests, when log prices dropped sharply forest owners typically responded by ending harvests, meaning there could be a sharp impact on employment in the sector.

'Forestry accounts for only 9 per cent of our merchandise exports, but it is disproportionately important for the economic cycle due to its impact on employment. When log prices drop, forest owners often stop harvesting, with an immediate impact on employment and on the health of forestry contracting businesses.'

Stephens said there were now risks that falling export prices could spill into the already slowing labour market, causing the committee to cut faster (in August and September) or even further, dropping the OCR to 0.75 per cent by the end of the year.

'If the Reserve Bank does cut in September due to rising unemployment, then there is a chance that they could go even further by cutting the OCR to 0.75 per cent in November,' Stephens said.

'However, at this stage we view earlier or more aggressive OCR cuts as a risk scenario – our central forecast is an OCR low of 1 per cent delivered in November.'

Westpac has already predicted that falling interest rates and the Government's ruling out of a capital gains tax meant that the housing market would pick up this year and Stephens said his prediction supported a rise in house prices. It has predicted that house price inflation will increase from 2 per cent to 7 per cent.

'We will reassess our house price forecasts … in August. However, if we are right about the Reserve Bank cutting the OCR to 1 per cent this year, then we can expect even lower fixed mortgage rates. That could prompt us to upgrade our house price forecast.'

Economists generally expect the Reserve Bank to cut the OCR in August, with Kiwibank chief economist Jarrod Kerr saying on July 16 that he was 'very close' to predicting the OCR would fall below 1 per cent.