Inflation, supply constraints could be worse post-lockdown – NZIER

The latest lockdown is unlikely to take much capacity pressure out of the economy, says New Zealand Institute of Economic Research principal economist Christian Leung.

In fact ongoing Covid containment measures will likely exacerbate labour shortages and tight supply lines for business, she says.

In the latest Quarterly Economic Predictions report the NZIER has pencilled in a 3.6 per cent fall in GDP for the lockdown-hit September quarter with a rebound of 3.4 per cent in the December quarter.

These figures were contingent on the lockdown strategy working and Auckland moving out of level 4 after four weeks.

“The strong bounce back in demand over the past year suggests the New Zealand
economy should be resilient in the face of the latest setback, with the negative impact on
demand likely to be transitory,” Leung said.

“The ease of businesses in accessing support payments has reduced the negative cashflow impact in the short-term, and pent-up demand is likely to increase activity once New Zealand moves down the alert levels”.

However, the implementation of lockdown and other restrictions to contain the latest Covid-19 community outbreak would likely exacerbate supply constraints and increase costs further for businesses, she said.

“Even before this latest outbreak, businesses had found it difficult to hire staff and source inventory for production and to restock shelves. These supply constraints will only get worse”.

Less clear was the longer-term impact on demand, which would be a key influence on how persistent inflation pressures turned out to be.

“The strong bounce-back in activity over the past year suggest the New Zealand economy is resilient and that businesses will be able to pass on higher costs by raising prices.”

Across the past year demand had roared ahead, fuelled by low interest rates and increased Government spending.

In particular, construction activity had ramped up strongly, reflecting strong demand for housing and infrastructure.

A record 44,299 new dwelling consents were issued for the year to June 2021, pointing to strong residential construction activity over the coming year.

Meanwhile, the infrastructure pipeline was also ramping up, she said.

“The New Zealand Infrastructure Commission reported an increase in the infrastructure pipeline from $6.1 billion of projects in 2019 to $61 billion in 2021, with infrastructure spending ramping up over the next two years.”

Infrastructure construction activity was solid in Auckland and Waikato, with per capita infrastructure spending in Auckland at almost $17,500.

That strong demand reflected the effects of “policymakers who responded readily with support measures in the form of wage and business support payments, increased Government spending, and low interest rates,” she said.

The lift in business and household confidence had, in turn, supported stronger spending.

The latest Covid-19 community transmission and the lockdown had
increased uncertainty over the outlook and was making it harder for businesses to plan, she said.

But the NZIER is still picking the Reserve Bank will need to hike rates this year.

“With inflation pressures likely to intensify, the Reserve Bank will be keen to get on with raising interest rates”, says Leung.

“The Reserve Bank has made it clear that were it not for the discovery of a Covid-19 community case and announcement of lockdown the previous day, it would have raised the OCR at the August meeting.

“This indicates that barring a prolonged outbreak where severe restrictions remain in place for New Zealand, which starts to have a longer-term negative impact on demand, interest rate rises are likely over the coming year.”

The NZIER has “pencilled in” a rise at the October meeting,dependent on how the outbreak evolves over the coming weeks.

“Beyond this near-term uncertainty, interest rates will be rising over the coming years,” Leung said.

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