Hopes for an economic recovery have been given a significant boost by yesterday's decision from the Reserve Bank to frontload cuts to the official cash rate. The RBNZ delivered a 50 basis point cut to the OCR and indicated it was prepared to cut again in November if required. After that, they're kind of starting to run out of ammo.   

Dropping mortgage interest rates though is not the panacea to cure all economic ills. Mortgage holders account for around a third of households. So of all the households in New Zealand, one third are paying mortgages. Two thirds, those who rent and those who've paid off their homes, and who are watching in horror as interest rates on their savings accounts plummet, do not have mortgages.  

Is the country's economy really going to be invigorated because a third of householders will see their mortgage reduced by a few hundred to a $1,000 a month? It'll be a good start, I suppose. And the 50 point cut will cut the costs of those with business loans, most of those are on floating rates, but what businesses really want to see is not reduced costs, but increased spending, increased revenue, and that is only going to come with confidence in the economy.  

I know a number of people who are seeing their mortgages coming onto a lower rate before the end of the year, but they're not planning a big spend up, even with Christmas on the horizon. They've been burned by the higher interest rates, and yes, yes, yes, I know Boomers had 22% and they managed and we don't know we're living, but it's all relative. It's much bigger mortgages. For many people seeing them go to 7 - 8% was a shock after mortgage interest rates were around 2%.  

So they are coming onto a a lower rate, but they have been burned, and the increased cost of living has also scared them. They've run down their savings, and over the next few months they're going to pay a few bills, get ahead of the bills, and start stashing some money away in case there's another economic shock. Which is probably not what businesses want to hear.  

Nor would the government be all that thrilled to hear that anecdotal story. They need people, they need us to start feeling better and soon, given the parlous state of the National Party's fortunes in the latest poll. They really need people to feel better. It's not good enough to say look at law and order, look at the ram raids, look at the changes we've made to education which are going to be the most positive thing we can do with our young people. Look at what we're doing with housing, increased housing which will bring the cost of first homes down. They can point to a whole lot of things that they have done and are doing and we're like, “ Still tough out there. It's really hard. You said we'd feel better. We don't." And that's what the polls are reflecting, so we need to start feeling better soon.   

It's a tricky balancing act with the Reserve Bank trying to stimulate the moribund economy while at the same time keeping a weather eye out for inflation. And there are no absolute answers about what is right and what is wrong. 

What is the best way to restore confidence?  Look at the New Zealand Institute of Economic Research. Their members know a bit about how economies work, and they have a monetary policy shadow board. They look at the same figures as the Reserve Bank monetary policy committee and they make their own decisions.  They look at monetary policy and come up with their reckons based on that. Their Monetary Policy Shadow Board recommended a 25 point basis cut, reflecting the view that excess capacity in the New Zealand economy provided scope for a small cut to support recovery and activity without affecting inflation.  

Several of their members said that because of the much weaker than expected June quarter GDP, there should be a 50 basis point cut now. One said it should stay on hold, given the recent spike in inflation and the fact that the OCR cuts to date have yet to work through the economy.  

Cities always recover last. Out on the farm, when they've got good prices, it slowly starts to trickle through, but the cities recover last. So stimulate but not too much.  

Nicola Willis has directed her pointy finger in the direction of councils and says rates are having a disproportionate effect on inflation. Other sectors are stabilising but really, it's a confidence game, isn't it? We've got to feel confident and that we're not clawing our way through each and every pay cycle before we can start spending and businesses can start making profits. And voters have to feel confident and businesses have to start doing better before National can be confident about not being a one-term government. 

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