Liam Dann: Shock unemployment drop raises questions about stimulus


Today’s shock fall in unemployment to 4.9 per cent means further interest rate cuts are almost certainly off the table.

It confirms all those anecdotes from business groups and confidence surveys about the difficulty of getting staff.

It reflects one of the biggest construction and building booms this country has ever seen.

But underpinning all that, it confirms that New Zealand’s response to the Covid-19 pandemic has been an utterly outstanding success.

A strong health response was the best economic response. That argument is settled.

The unemployment number caps a series of economic releases that have surpassed the most optimistic expectations of economists.

In fact, the recovery has been so successful that the spotlight now turns to the need for such enormous levels of government and Reserve Bank stimulus.

“The surging housing market, surprisingly high inflation, and now falling unemployment all make it obvious that the combined efforts of the Government and Reserve Bank to support the economy through the Covid shock have had a much more powerful effect than anticipated,” says Westpac senior economist Michael Gordon.

“This will call into question just how much ongoing stimulus, particularly over the period when the Covid vaccine is rolled out and global travel resumes.”

Economists had expected the unemployment rate for the December quarter would rise to 5.6 per cent from 5.3 per cent.

Some – including opposition politicians – had predicted far worse, arguing that stronger than expected employment was being flattered by government wage subsidies.

But the end of support from government wage subsidies has not heralded a collapse in employment.

In fact, the programme appears to have worked exactly as hoped, providing time for businesses and workers to adapt to the post-Covid economy.

We now have a construction boom in full swing and an economy bumping up against capacity restraints rather than recessionary slack.

The biggest issue now seems to be that all this good news is playing havoc with the relatively conservative assumptions of Treasury and the Reserve Bank.

Sydney-based Capital Economics has been bullish on the New Zealand economy for some time and has been warning of upside inflation risks.

The Unemployment rate “is already past the peak and we expect the labour market to tighten throughout 2021,” senior economist Ben Udy writes.

The Reserve Bank still has unemployment rising to 6.4 per cent by the middle of the year and forecast to be still as high as 5.5 per cent by the end of 2022.

These assumptions will have to change.

If the economy is really facing capacity constraints an all the headaches of an economic boom the big question is: if and when will interest rates rise.

That’s the $1 trillion question worrying fund managers and share market investors the world over.

The return to “normal” credit market conditions is considered a possible trigger for an end to the post-Covid share market boom.

New Zealand’s relative success is forcing us to face this dilemma before any other advanced economy.

So there is now a consensus that rate cuts are off the table here. While rate hikes are still a relatively distant threat, they must surely be seen to be looming closer.

In the wake of last week’s inflation data Capital economic picked that our Reserve Bank will be the first in the developed world to move and lift rates next year.

Today’s data will have reinforced its position.

Other measures that are helping keep retail interest low – like quantitative easing – may now be scaled back more quickly.

However, as KiwiBank chief economist Jarrod Kerr notes – beyond the headline figure – the labour data wasn’t inflationary.

“Annual wage growth slowed a little,” he says.

“Broad-based measures of inflation are mixed. And wage growth has cooled in a highly uncertain Covid world. Companies are battling supply disruptions, surges in costs, and a dearth in foreign visitor demand.”

The Reserve Bank – which has thus far indicated a desire to err towards the risk of over-stimulating the economy – will offer up its next assessment of the situation in three weeks (February 24) when it delivers its Monetary Policy Statement.

While it is starting to look like it is close to meeting its maximum sustainable employment mandate, inflation is still below target.

That may give the Bank some more time to watch and wait.

But it will be a monetary policy statement that will have markets hanging on every word.

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