Economy Watch

Performance of Manufacturing Index

Doug Steel -
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New Zealand’s level of manufacturing activity during November returned to September’s expansion result, according to the BNZ - BusinessNZ Performance of Manufacturing Index (PMI). The seasonally adjusted PMI for November was 57.7 (a PMI reading above 50.0 indicates that manufacturing is generally expanding; below 50.0 that it is declining). This was 0.4 points up from the previous month, and returned the sector back to September’s result. It also continues the relatively tight band of expansion seen over the last four months. Overall, the sector has remained in expansion in all months since October 2012. BusinessNZ’s executive director for manufacturing Catherine Beard said that the sector is heading towards a stronger second half of the year. “The sub index value for production (62.1) was at its highest level of expansion since July 2013, while finished stocks (57.5) was the highest recorded since the survey began, just pipping the 57.4 recorded in September 2014. Also, the proportion of positive comments in November (65.1%) increased slightly from October (64.2%). BNZ Senior Economist, Doug Steel, said that “recent surveys have seen business confidence falter during and after the government formation process. In contrast, the PMI, which is a survey of business outcomes rather than sentiment has remained rock solid over recent months”.

HYEFU Holds the Fort for the Budget Bun Fight

Craig Ebert -
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- HYEFU hangs together remarkably well
- With a largely unaltered bond programme
- As Treasury net-increases nominal GDP forecast
- NZGB bond rates fall in relief, NZD steady
- But BPS flags pressures for Budget 2018
- Where spending promises more fully accounted

What will the rating agencies make of today’s HYEFU? We suspect they will be, like us, deferring any judgement on the fiscal accounts until we see next year’s Budget. That’s when everything will be rinsed through and we’ll have a better handle of how Treasury’s economic forecasts are looking as well.

Record Terms

Doug Steel -
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- Merchandise terms of trade hits all time high
- But is expected to ease back from here
- Trade volumes offer Q3 GDP support
- Imported deflation ending?

The terms of trade rose 0.7% in Q3 2017, to be 12.3% higher than a year ago. This was a little softer than market (and our) +1.3% expectations but not a big miss in the scheme of things. In the bigger picture, the merchandise terms of trade has reached a record level in 2017. But we think this is as good as it gets for now.

More Than Political Protest by NZ Firms?

Craig Ebert -
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- ANZ business survey slumps majorly
- As it tends to do with Labour-led governments
- But reasons for genuine caution too
- Jump in survey's inflation gauges also an issue
- As NZD continues to abate

Politics noted, the extent of the drop in the ANZ survey, so soon, means we also need to wonder what might be bugging the business sector from a practical point of view too – whether by way of identifiable policy or anything else.

Drying Out

Doug Steel -
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- NZ soils drying out rapidly
- An economic risk worth monitoring
- As 2008 NZ recession attests

The risk of drought in New Zealand is rising. That might seem like a strange thing to say when right through winter and early spring there was far too much rain. Back then grass growth was restricted by saturated soils. But conditions have been changing over recent weeks. It has been drying out – rapidly. It has got to the point now that many parts of the country have bigger soil moisture deficits compared to what is normal for this time of year according to NIWA. At this point, we have not adjusted our economic forecasts on account of the spreading dry. But it is a risk worth highlighting, especially with near term weather forecasts showing little rain on the horizon.

When the Little Things Mean So Much

Craig Ebert -
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- 0.2% gain in Q3 retail effectively huge
- As it builds on Q2's sporting fillips
- But be careful in interpreting the regional data
- Retail inflation shaking its negativity
- Fiscal injection to households still to come

Statistics NZ this morning reported a 0.2% increase in September quarter retail trade volumes. At first blush this does not sound impressive, one little bit. But really it was, considering it followed a 1.8% jump in June quarter spending that was demonstrably boosted by New Zealand’s hosting of some major sporting events.

Performance of Services Index

Doug Steel -
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Activity in New Zealand’s services sector during October was largely on par with recent months, according to the BNZ - BusinessNZ Performance of Services Index (PSI). The PSI for October was 55.6, which was 0.3 points lower than September (A PSI reading above 50.0 indicates that the service sector is generally expanding; below 50.0 that it is declining). It was also the third time in four months that activity rested between 55-56 points. BusinessNZ chief executive Kirk Hope said that while the sector has shown consistent and healthy levels of expansion, it is slightly off the 56-58 values generally experienced in recent years. “Despite overall expansion not being quite in the same league as recent years, the proportion of posi¬tive comments for October (67.6%) experienced a noticeable lift from September (56.6%), with many outlining conditions being business as usual. Also, a number of negative comments continued to revolve around General Election uncertainly”. BNZ Senior Economist Doug Steel said that “these are robust results given the prevailing uncertainty surrounding the election, coalition negotiations, and government formation over the period. It was a similar story in last week’s equivalent for the manufacturing sector. It is a positive start for economic growth in the final quarter of the year”.

Performance of Manufacturing Index

Craig Ebert -
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Activity in New Zealand’s manufacturing sector during October remained within a fairly tight band of expansion over recent months, according to the BNZ - BusinessNZ Performance of Manufacturing Index (PMI). The seasonally adjusted PMI for October was 57.2 (a PMI reading above 50.0 indicates that manufacturing is generally expanding; below 50.0 that it is declining). While this was again 0.4 points lower than the previous month, the figure still represented very healthy and consistent levels of expansion. Overall, the sector has remained in expansion in all months since October 2012. BusinessNZ’s executive director for manufacturing Catherine Beard said that the fundamentals of the October result remained healthy. “The two main sub index values of production (60.7) and new orders (60.1) indicated strong expansion for October. Also, while the proportion of positive comments dipped in October (64.2%) compared with 69.5% in September, it was still similar to the 65% recorded in August. BNZ Senior Economist, Craig Ebert, said that “October’s result was certainly encouraging, as was September’s - bearing in mind the PMI is about the nuts and bolts of activity rather than sentiment about where things might be heading”.

Tiptoeing Through the Minefield

Stephen Toplis -
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- Cash rate unchanged at 1.75%
- But RBNZ becomes a trifle hawkish
- As inflation forecast raised
- And new government policies are embedded into forecasts
- We stick with our view that the cash rate will rise in 2018

As today’s statement was largely in line with our expectations, our forecast rate track is unchanged. We still believe inflationary pressures will prove higher than anticipated and that the Bank will end up raising interest rates in the second half of 2018 but, equally, we can understand that given the degree of uncertainty that prevails the Bank is not likely to formally suggest such a move any time soon. We would, however, expect each statement from here on in to get progressively more aggressive.

Outlook for Borrowers: Post November MPS

Jason Wong -
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- With expectations of unchanged monetary policy for at least another nine months, wholesale floating rates and short-dated wholesale fixed rates should remain flat through the rest of the year and into early next year. This suggests little need for businesses to rush in to protect against higher short term rates.

- We still think that the low in 5-10 year wholesale rates this year has probably passed. With the balance of risk skewed to the upside for long-dated rates, an active strategy of hedging dips in rates seems entirely appropriate.

Markets Too Focussed on Downside Risks

Stephen Toplis -
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- Slump in confidence does not portend slump in activity
- Though growth likely to undershoot RBNZ and Treasury assumptions
- Inflationary pressures are building
- Corporate profit margins under pressure
- Debt programme likely bigger than Government forecasts

We are very strongly of the view that the New Zealand economy will keep on keeping on post the change in government but we cannot stress enough that market participants must be more wary of the inflationary pressures that are developing than the negative confidence impact on activity.

Labour Market Tightens Further

Stephen Toplis -
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- Unemployment rate drops to nine year low
- It will fall further
- Markets respond to heightened inflationary risk
- Corporates face margin compression

The over-riding conclusion that can be reached from today’s data is that the labour market is tightening by the second and is putting upward pressure on wages. Moreover, the tightening is in excess of RBNZ expectations and set to tighten even further.

Businesses Suffer Election Compunction

Craig Ebert -
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- ANZ business survey softens noticeably
- Even before the change of government known
- But no sway on our views, especially re inflation
- Consents underscore building sector resurgence
- Lending more "support" to inflation outlook

It was no great surprise to see this afternoon’s ANZ business survey continue to soften, given the election backdrop. However, after accounting for seasonality, it was a bigger drop than we might have imagined. And this was before the new government was announced – meaning the first meaty judgement on this will come in November’s survey. For now, we’ll just take the wobble in confidence on board, while reassessing our macro-economic views in light of the new policies primarily.

Deficit Narrowing For Now

Doug Steel -
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September’s merchandise trade deficit of $1,143m was wider than market expectations of a $900m deficit although not quite as wide as the $1,360m deficit we anticipated. September’s trade results saw the annual merchandise trade deficit continue to shrink, to $2,908m in the year to September from $3,154m in the year to August. We expect the annual deficit to continue to narrow over coming months, before widening through 2018 as dairy prices lose steam.

NZD Plummets on Political Change

Stephen Toplis -
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- NZD falls on uncertainty
- Potentially putting upward pressure on future rates
- Fiscal policy to ease
- More debt to be issued
- Growth on a firm footing

Heightened uncertainty has seen the NZD tumble. Significant policy change is afoot. But above all, the NZ economy is well founded. We remain, guardedly, optimistic for the way ahead.

Inflation - A Core Problem

Stephen Toplis -
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- CPI says tighten sooner
- RBNZ’s core measure says quite the opposite
- But core outcomes validate past actions more than they dictate future policy
- Headline increase will pressure wages
- We still have a tightening bias

Recent consumer price inflation suggests that monetary conditions might need to firm faster than the RBNZ has assumed and, perhaps, even faster (or further, at least) than the market has priced.

Dairy Dip

Doug Steel -
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- Dairy prices ease at auction
- Skimmilk powder prices slump further
- As EU considers what to do with its stockpile
- We tab down our 2017/18 milk price forecast to $6.30

The GDT Price Index fell 1% at auction overnight, to be down 5.1% since a recent peak back in June. The ongoing drift lower in international prices as milk supply increases and as the EU considers how to unwind its massive stockpile of skimmilk powder sees us lower our forecast for Fonterra’s milk price to $6.30 for the 2017/18 season.

Rate Increase Closer

Stephen Toplis -
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- CPI inflation surprises
- Will put upward pressure on wages and expectations
- But no sign of a target breach in the foreseeable future
- And NZ institutional arrangements currently confused
- So policy uncertainty abounds

New Zealand consumer price inflation has soared well above RBNZ expectations. At 0.5% for the third quarter, 1.9% for the year, the rate of price increase was 0.3% above that projected at the time of the August Monetary Policy Statement. Some of this can be put down to factors that will be quickly played down such as stronger-than-expected petrol and food prices. But other aspects of the data, such as the above-forecast increase in non-tradables inflation (0.7% for the quarter, 2.6% for the year) should be greeted with greater consternation.

Wait and see

Doug Steel -
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PSI Solid

The Performance of Services Index (PSI) has remained stoutly expansive over recent months. Sure, it cooled marginally to 56.0 in September from 57.2 in August, but it remains well above its long term average of 54.4. In contrast to measures of business confidence that have noticeably dipped around the election, the PSI, as a survey of changes in actual activity, has held up well. The small monthly decline was well within usual variation. In combination with its strong manufacturing PMI cousin, which was released last week, it all suggests the economy maintained a decent amount of momentum in the third quarter.

Election Uncertainties

That is not to say that the election was not on the minds of many PSI respondents. Indeed, just like in the PMI, of the respondents citing the major factor on their business as being a negative one, about a quarter of these noted the election. This coincided with a dip in the proportion of positive comments in September to 56.6% from 66.9% in August. But encouragingly in being well above 50%, it shows positive comments still firmly outnumber negative ones. Also offering encouragement was the firm September PSI employment reading. At 54.1 it was up from 52.2 in August and smack on the 2017 year-to-date average, which is running stronger than last year’s average of 53.4. This bodes well for Q3 employment growth when the official figures are released next month.

Sales Expansion Slowing?

The PSI activity/sales indicator was one area that did show a material slowdown, although at 56.6 in September it hardly indicates slow growth. Still, it was down from 62.7 in August. This continues a volatile period for sales over the past six months, so we wouldn’t jump to conclusions on one month’s reading. But it is notable that it comes alongside the PSI for retail trade falling to an unadjusted 46.8, the lowest level for a September since 2011. Slower services sales indicators might just reflect election caution or perhaps the fact that school holidays didn’t start until October this year. But with much lower house sales and softer signals from the likes of electronic card transactions over recent months this bears watching. On the positive side, PSI new orders remain strong posting a, relatively rare, fifth consecutive reading above 60. New orders were also strong in last week’s PMI.

Service Sector GDP

Recent official figures revealed service sector GDP growth averaged an annual pace of 3.2% in the first half of 2017, above its 5-year average of 2.8%. Despite some ups and downs in the details, the ongoing strength in the overall PSI indicates that service sector GDP growth has maintained its strength into the second half of 2017.

Solid September

Craig Ebert -
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September’s Performance of Manufacturing Index (PMI) proved to be about as strong as it was in August. Index wise, it was 57.5 versus 57.9, seasonally adjusted. Aside from remaining comfortably above its long-term average (of 53.4), this was a particularly encouraging result considering the proximity of the 23 September general election. Note: while respondents submitted their views in early October, it was in regards to how things were going through the course of September. Of the (minority) of respondents citing the major factor on their business as being a negative one, around a quarter of these referenced the election. So it wasn’t a non-issue, as such.

Even so, the manufacturing industry would seem to be forging ahead quite nicely. This was definitely the message in the PMI’s production index for September, with its seasonally adjusted result of 59.6. The tone from its new orders index remained relatively upbeat too, with 60.4. These elements corroborated areas of strength in the 3 October NZIER Quarterly Survey of Business Opinion (QSBO). In this, manufacturers indicated solid expansion in production and orders, especially when looking ahead. And with respect to output, expectations of domestic sales had overtaken those for exports. Note: QSBO responses occurred prior to September’s election.

Not every aspect of September’s PMI was expansive, however. In fact, its employment index fizzled out to 50.7, having been running nicely about the 56.0 mark in July and August. It’s tempting to see this as manufacturers pushing pause on their hiring, as they await news on the form of the next NZ government. However, we note that the PMI jobs index has been bouncing around viciously for the last 6 months or more, but with a reasonably positive average. And as a timely cross-check we note the QSBO view on manufacturing employment remained relatively upbeat. This was as true for reports on hiring for the last 3 months as it was regards the coming 3 months.

The other reason we can imagine manufacturers are still out there hunting for staff is the fact that they are reporting increased difficulty in finding them. This is particularly the case for skilled staff (as it is for the economy at large). Yet in relation to physical capital, the latest QSBO suggested manufacturers were running less close to the wind. Its capacity utilisation measure, CUBO, for manufacturers eased to 90.1%, from 91.7% in Q2 and 92.9% in Q1. Rather than signifying any pull-back in demand this could well reflect the consequence of the decent pick-up we’ve witnessed in business investment in plant, machinery and equipment over recent quarters.

QSBO Demonstrates Political Correctness

Craig Ebert -
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- QSBO hardly rattled by the (prospective) election
- With steadfast commitment to employ and invest
- Fissures in building and services look transitory
- Inflation indicators firm but not lifting
- Responses to next government of most interest

The news in this morning’s NZIER Quarterly Survey of Business Opinion (QSBO) was that it held its shape rather well, when it might have gone a bit wobbly, if only because of its proximity to the general election. Sure, its net confidence subsided, but not all that much. More to the point, the QSBO’s indicators on activity, employment, investment, profitability, capacity constraint, and pricing/costs, remained firm.

Frank Spencer

Craig Ebert -
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- RBNZ OCR and language unchanged, as expected
- Albeit as Spencer softens dig at “high” NZD
- RBNZ view of falling inflation up for debate now
- Post-election bidding for even greater fiscal stimulus
- But how might the business sector be impacted?

Acting RBNZ Governor, Grant Spencer, was reasonably frank at his first OCR review this morning. Nothing material had changed since the August Monetary Policy Statement (MPS). And so it was best to carry on with much the same messages, along with an unchanged cash rate of 1.75%. This was widely anticipated, certainly by local commentators.

Outlook for Borrowers: Post September OCR Review

Jason Wong -
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- With expectations of unchanged monetary policy for an extended period, wholesale floating rates and short-dated wholesale fixed rates should remain flat through the rest of the year and into early next year. This suggests little need for businesses to rush in to protect against higher short term rates.
- Borrowers have had plenty of opportunity to hedge longer-term interest rate risk at attractive levels over the last month or so. Anyone who “missed the boat” should look to reset their expectations. We think the low in rates this year has now passed. With the balance of risk to the upside for rates through to the end of next year, we still consider a hedge on dips strategy entirely appropriate.

Is It Nothing But Election Nerves?

Craig Ebert -
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- Business survey finally showing election nerves?
- As its GDP growth signal slows to 3% from 4%
- Inflation pointers congealing near 2%
- August trade miss no big deal for us
- Q3 GDP and current account still looking up

It looks like someone finally told the ANZ business survey that a tight election was afoot. Its net confidence tanked to zero in September, from +18 in August. But while this is a big fall, bear in mind the level is still majorly suppressed by seasonality this time of year. When we correct for this we get a net confidence reading of +14, which, while lower than August’s +29, is higher than it was back in April +7. The long-term average is +11. So September’s result is no disaster, or even a stalling, more a bit of temperance from a seemingly bullet-proof attitude over prior months.

A Centrist GDP Outcome

Craig Ebert -
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- Q2 NZ GDP expands 0.8% (2.5% y/y)
- No real surprise (for RBNZ included)
- But nominal GDP growth "just" 5.4% y/y
- No great fodder for election debate
- As growth indicators remain robust in Q3
- But immigration falls again in August

There might yet be some important implications for New Zealand’s economic outlook from Saturday’s election. But with that race still looking very tight we cannot presume to amend our views on anything at this point. Today’s Q2 GDP report certainly can’t be considered fodder for one side of the election debate or the other, when it comes to arguing the underlying health of the economy.

NZ Less Vulnerable

Doug Steel -
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- Current account deficit smaller than expected
- Part of a trend reduction in external vulnerabilities
- Indicating NZD not overvalued
- We expect current account deficit to shrink further
- Nothing here to change our +0.8% view for tomorrow’s Q2 GDP.

New Zealand’s external accounts are looking more and more benign by the day. Sure, the annual current account balance remains in deficit, as it has since 1973, but at the equivalent of 2.8% of GDP in the year to June 2017 it is smaller than its historical average. This result was a smaller deficit than the market consensus of 3.1% of GDP and even a touch smaller than our 2.9% forecast (helped by some revisions).

Upwards and onwards

BNZ - BusinessNZ -
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New Zealand’s services sector experienced a lift in expansion during August,
according to the BNZ - BusinessNZ Performance of Services Index (PSI).