Economic activity has remained resilient through mid-2015. Supported by a strong housing and construction sector, as well as the lower dollar, the New Zealand economy is estimated to have grown at a healthy clip of around 3 percent over the past year.
This resilience in activity includes retail spending. Spending levels surged in early 2015, boosted by falls in petrol prices and a strong tourist season associated with the Cricket World Cup and early Chinese New Year. Even as the boost from those factors has dissipated, overall spending levels in the economy have held up. There has been particular strength in spending on durable items, such as electronics and hardware.
But as we move towards the end of 2015 and into 2016, we’ve become more concerned about the outlook for spending, and economic activity in general. A marked slowdown in GDP growth looks to be on the cards.
The economy is facing some significant headwinds. First of all, the global environment has become a lot rockier and the volatility of financial markets has increased. Of particular concern for New Zealand are signs that the Chinese economy is weakening, which is likely to weigh on demand for our exports and commodity prices. Weaker Chinese demand also implies a softer demand outlook in other economies that are key trading partners for New Zealand. This is a particular concern with Australia, where growth has already slowed.
On top of this, we’re looking at a second very low payout season in the dairy sector. Although we’ve recently seen some pick up in prices after Fonterra signalled that production would be down on last season, prices remain weak. We’re forecasting a payout of $4.30/kg this season, which is well below break even for much of the industry. The resulting falls in export earnings and confidence will dampen investment and household spending in rural communities. In addition, it’s inevitable that challenging conditions in the rural sector will pass through to economic conditions more generally. Indeed, the past few months have seen very sharp declines in business confidence across the economy, signalling downside risk for investment and hiring decisions over the coming year.
The final major development that’s made us concerned about the economic outlook is that we are seeing a levelling off in reconstruction activity in Canterbury. There is still a significant amount of reconstruction work to be completed, but we will no longer see the very large increases in construction spending and employment that we saw in recent years. Instead, we expect that rebuild activity will continue around current strong levels over the next year or so, before it starts to gradually wind down from about mid-2016. This will dampen nationwide GDP growth and will pass through to softer employment and spending in the economy over the coming years.
It’s certainly not all negative for the economy. The fall in the New Zealand dollar is providing a boost to the export sector, especially tourism. In addition, continued strength in net immigration and a strong construction outlook in Auckland will continue to support demand.
Nevertheless, the factors mentioned above mean that the wind will be coming out of the economy’s sails over the coming months. We expect GDP to slow to a lacklustre pace of around 2 percent over the next few years. This will be accompanied by rising unemployment and the continuation of low wage growth.
Growing concern around the economic outlook has already seen consumer confidence drop to a three year low. Combined with a softer outlook for employment and earnings, we expect that this will result in household spending growth slowing from around 3.8 percent over the past year, to a little below 2 percent. In terms of spending per person, that’s close to stalling. The slowdown in spending is expected to be widespread, but will be particularly marked in rural regions.
Providing some relief for consumers will be lower interest rates. The Reserve Bank has already cut the Official Cash Rate three times over the past year, and we expect that they will continue to reduce it over the coming months. This is because in addition to a slowdown in growth, inflation in the economy remains very low. In the year to June, consumer price inflation was just 0.4 percent. That’s not much above the 15 year low it reached in early 2015, and still well below the Reserve Bank’s 1 to 3 percent target inflation band. To ensure inflation settles at levels close to 2 percent, the economy is going to need a significant shot in the arm.
This copy originally appeared in NZ Retail magazine issue 740 October / November 2015.