New Zealand: discomfort zone

The Reserve Bank of New Zealand (RBNZ) issues its monetary statement on June 5. But Finance Minister Michael Cullen, it would appear, has already made the decision for it, and it can be expected to hold its cash rate at a high 8.25%.

Cullen cut taxes in his May 22 budget, which will prompt low and middle-income earners to spend more. Demand will still slow, but the offset from higher spending will help keep inflation above the central bank’s 3% target ceiling. Cullen says his budget comes in at the limit of his 'comfort zone'. He is risking deficits. Operating balances are forecast to drop from 0.7% of GDP for fiscal year ending March to 0.1% four years on. If Cullen is comfortable with this, the RBNZ finds itself pushed into a tight spot. It will have to live with inflation in the 3.0-3.5% range for a while longer. More than this, external price pressures have been building. As the economy slows, the central bank will want to lower the cash rate, but doing so will increase the pressure from imported inflation.

There will be an election this year, probably called for October, when Cullen's tax cuts begin to kick in. Helen Clark's Labour government is trailing at the polls, which explains her finance minister's generosity. The RBNZ should not hope for a National win, however. It has called for tax cuts for some years, and might be expected to deliver more than Labour. That would mean discomfort zones all round, as New Zealand enters 2009.