The Kākā by Bernard Hickey

TLDR: Three Waters finally got its comeuppance yesterday when the Auditor General called out its underpinning lack of accountability to taxpayers and ratepayers.

The Government should have been up front about its strategy of trying to engineer a tax increase and higher debt onto the nation’s public water infrastructure from the start. Now the reform is mired, unfortunately, in a backlash over co-governance, which is not the real reason for the reforms.

The Labour Government’s way-too-clever-for-its-own-good idea of trying to quietly solve Aotearoa-NZ’s fundamental infrastructure financing problem has now backfired, largely because not being crystal clear about the need for those higher taxes and debts has allowed others to insert co-governance into the vacuum left by that vagueness.

In my view, a massive backlash in this October’s council elections and the ongoing political toll on the Government is likely to see it scuppered before the General Election late next year. Or it will be reversed by a new National-ACT Government by the end of 2023.

Paid subscribers can see my full analysis of Three Waters below the paywall fold and in the podcast above. They can also comment below. I have since opened this up with the permission of paid subscribers.

The real problem with Three Waters

It took the driest of reports from the unlikeliest of places to expose the fundamental problem with Three Waters. The Auditor General lobbed his submission on the Water Services Entities Bill into the Parliamentary Select Committee process yesterday.

It skewered the lack of accountability that Three Waters is creating in its attempt to solve Aotearoa-NZ’s existential infrastructure funding blockage. The too-clever-for-its-own-good nature of Three Waters finally caught up with it and sank its teeth into its own rear.

The Government, in essence, is pushing ahead with plans to create a brand new set of indirectly controlled public assets with their own debt structures and ability to charge the public fees without asking for (or receiving) permission from those who will ultimately pay higher those higher water charges and bear its debts.

It was an understandable strategy. Voting taxpayers and ratepayers almost always reject tax increases and higher debts whenever they’re asked upfront for permission from politicians before it is done.

A way around the 30/30 rule

Three Waters was a clever way for central Government to essentially circumvent the bi-partisan ‘30/30’ consensus that has dominated our political and economic settings for thirty years. That is that:

* taxes won’t be raised or new taxes introduced in a way that means Government revenues are more than 30% of GDP; and,

* central and local Government won’t raise long term net debt levels beyond 30% of GDP.

That 30/30 consensus meant Aotearoa-NZ’s Government and Councils under-invested in water, transport, health, education and other infrastructure to the tune of about $100b over the last 30 years, and will need to invest another $100b over the next 30 years just to keep up with forecast population growth. That $200b of infrastructure spending over the next 30 years would require breaking one or both of those 30/30 rules. The alternative is much heavier ‘demand management’ tools such as congestion charges, water charges and other forms of user pays that effectively become tax increases.

Given voting taxpayers and ratepayers don’t want to agree to those tax increases or higher public debts (because it means higher interest rates and lower house prices), but also want working infrastructure, there is a massive ‘magical thinking’ problem in both the body politic, Parliament and the Beehive.

Squaring the circle of not asking for permission for higher taxes and debt but still doing it is Three Waters’ major driving force. Unfortunately, Nanaia Mahuta and the Government did want to (or coudn’t) spell that out and have a proper debate. By being vague about that motivation, local authority politicians and ratepayers inserted what they think is the motivation into the vacuum crated by that vagueness.

In my view, co-governance is an inconsequential sideshow. Standard and Poor’s would never approve the debt issuance required if actual revenues and assets were to be actually controlled by Iwi groups.

So where are we now?

The Auditor General’s intervention has cast a harsh spotlight on Three Waters. Sadly, the Government persisted with Three Waters over the last year as the backlash built, and it is now in an awful mess. It is dragging on Labour’s poll rating and will be exposed for all to see in a massive electoral backlash in council in October.

My bet is Labour will quietly drop it before the end of this year, or it will be loudly repealed by the end of next year by a new National-ACT Government.

Elsewhere in the news here in Aotearoa-NZ this morning:

* National/ACT could form Govt with 1News/Kantar poll results;

* Sam Uffindell’s future in doubt after assault revelation in Stuff, but he says Luxon didn’t know before selection RNZ Checkpoint;

* Almost all Cabinet ministers fail to meet OIA deadlines, Stuff’s Andrea Vance reports;

* Consumer pessimism is easing a bit in spending survey, Stuff reports;

* National ‘begged’ Jami-Lee Ross to stay after Bridges wouldn’t give him top job, Ross tells court, as Stuff’’s Catrin Owen reports; and,

* QV’s average house price below $1m for first time since Sept Newshub, RNZ

While overseas overnight and this morning:

* China is extending its military drills around Taiwan, Reuters reports;

* The US Senate finally passes Biden’s US$3.5t ‘Build Back Better’ climate and tax bill as US$430b ‘Inflation Reduction Act’, Reuters reports;

* SoftBank will slash costs after reporting a record US$23b loss, Reuters reports;

* Cox Comms is buying Axios for US$525m or 6.1 times annual revenues, CNN reports;

* Copper miner Oz Minerals has rejected an A$8.4b takeover bid by BHP, Reuters reports;

* Asian crypto lender Hodlnaut halts withdrawals, Reuters reports

Chart of the day

Youth workforce participation has been rising for a decade

Some fun things

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: China’s angry reaction to Nancy Pelosi’s visit to Taiwan has yet to provoke actual conflict or disruptions to trade. We may have dodged a bullet, for now. Elsewhere, National has laid out a carrot and a stick approach to get up to 39,000 young unemployed people back to work.

Paid subscribers can see more detail and analysis below the paywall fold and in the podcast above. You’re also welcome to comment below. Later today I’ll be covering the weekly post-Cabinet news conference.

Missiles dodged for now

Nancy Pelosi’s hair-raising visit to Taiwan last week appears to have passed without starting World War Three, although it’s too early to breathe a big sigh of relief. Taiwanese and Chinese warships will play out a fourth and final day of ‘cat and mouse’ shadowing exercises in the Taiwan Straits today.

China’s war gaming follows the firing of ballistic missiles over Taiwan for the first time last week and the suspension of military links between the United States and China. (Reuters)

So what? - This could have gone much worse and there could still be accidental conflict and escalation. There also remains the risk of a much more serious naval or air blockade by China, which would trigger much deeper consequences for global trade and the economy.

It’s worth noting that half of the world’s container fleet and 88% of the world’s largest ships by tonnage passed through the Taiwan Strait in the last year. RAND Corp has estimated a war in the Strait lasting a year would reduce US GDP by 5-10% and China’s GDP by 25-30%. China is our largest trading partner, and our second-largest partner, Australia, also has China as its largest trading partner. Bloomberg-$$$

Quote of the day

‘Here’s the stick’

"If you're a young person and you don't want to work, I'm sorry, there are consequences for that and there'll be sanctions around that as well.” National Leader Christopher Luxon talking to media after his speech on Sunday to National’s annual conference in Christchurch via Newshub.

So what? - Luxon embraced the ‘social investment’ approach advocated by former PM Bill English in his speech to the National conference. He also included the ‘carrots’ of a $1,000 bonus for an unemployed person under the age of 25 (who had been on the jobseeker benefit for a year or longer) who stays in work for 12 months. He has also promised a ‘job coach’ provided by a community provider.

The carrot and stick approach allows Luxon to ‘frame’ the issue in a way that both National’s base can embrace (the stick) and ‘floatier’ voters (especially urban women in their 30s to 50s) can embrace (the carrot).

The unanswered questions:

* Did social investment actually work under English?

* Or was it a convenient cover for ramping up sanctions in a way that drove already-poor young people even deeper into poverty?

* Why has there been a 49% rise in the number of under-25s on jobseeker benefits to 39,000 since Labour’s election in late 2017?

Charts of the day

US ‘gas’ prices heading for US$4/gallon

NZ regular prices well under NZ$3/litre

So what? - Prices for petrol are now well down from their highs as oil prices fall back to their pre-war levels. There hasn’t been the same political ‘noise’ around these falls as there was when they rose through their key ‘thresholds’ of US$5/gallon and NZ$3/litre. But it’s one of the features signalling inflation has peaked and these numbers are also correlated with consumer confidence and political support (or opposition) for Governments.

Some fun things

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: David Clark has successfully fought a rearguard action to save the bulk of the CCCFA, which will help avoid plugging extra leverage into a housing market already bursting at the seams with cheap money.

Clark wins rearguard action to keep most of CCCFA

Commerce Minister David Clark has managed to fight a rearguard action in Cabinet to save the bulk of the Credit Contracts and Consumer Finance (CCCFA) Regulations, arguing a wholesale wind-back of the rules would leave some homebuyers exposed to unaffordable loans and give banks a regulatory free kick over non-bank rivals.

Officials actually suggested either repealing the rules altogether or carving banks and/or mortgages out of the regime entirely in an effort to remove the noise around ‘bankable’ mortgage applications being rejected. Another option suggested was to reduce the penalties for bank lending officers. Some brokers and bankers have blamed the CCCFA’s tightening of mortgage affordability assessments for the ongoing 10-15% slump in house prices from their peak in November 2021, just as the CCCFA kicked in.

Clark yesterday announced a couple more concessions to rules around including credit card and buy-now pay-later payments in loan affordability assessments, but stopped short of the much wider carve out suggested by officials, who had conducted a study of bank and borrower complaints about the rules.

A chorus of complaints through the summer from banks and brokers about ‘borrow ready’ home buyers being rejected because of their eating out and savings habits led to an urgent review and an initial round of tweaks announced in March. This first tranche of changes removed savings and investments as essential spending in affordability assessments and wound back requirements for more intrusive inquiries about spending habits.

But these tweaks were always seen as the first step while a fuller review was conducted. That was completed and came back to Cabinet in July. It had to consider whether to either gut the CCCFA or even repeal it. Clark succeeded in keeping the bulk of the Act’s regulations, which were designed broadly to stop personal loan, car loan, credit card and bank lenders from loading customers up with unaffordable loans.

Officials clearly wanted to scrap much of CCCFA

Officials said in a Regulatory Impact Assessment issued with the Cabinet minute and papers that were published with the decision that the CCCFA rules that began from December 1 had led to some unintended consequences, including the rejection of mortgage applications that were essentially ‘bankable’ or ‘loan ready.’

They did not specify a number or scale of the unnecessary rejections, but pointed to bank estimates of 6-7% of borrowers who would previously been approved being rejected because of the rules. They also pointed to lenders saying the rules had increased the time take for application processing by 50%.

They also pointed to Centrix data showing the ‘conversion rate’ of home loan ‘enquiries’ fell from 38.4% in November 2021 to 34.9% in December 2021, suggesting around 9% of borrowers who would have gone on to receive lending in November no longer received a loan in December. Officials said this equated to an extra 14,000 to 21,000 home loan borrowers missing out each year.

Centrix data also suggested about 14% of previously qualifying personal loan applicants no longer received loans, with 35% of previously qualifying credit card applicants no longer received credit cards.

Officials were careful not to conclude the CCCFA was completely to blame.

“It is difficult to determine whether borrowers who were declined wereunnecessarily declined, or whether there were actually significant affordability risks(and therefore the borrower should have been declined under the responsible lending principles).

“There is also evidence that for some types of credit contracts, like temporaryoverdrafts, borrowers have been dissuaded by the more onerous process itself, which is not reflected in declines in conversion rates (since an enquiry would not have been made to the credit reporting agency at all).” Officials in the RIS.

One quirk was that Centrix data found applicants with high credit scores were more (not less) likely to be rejected than those with lower scores - “the opposite of naïve expectations that low credit score (i.e. ‘high risk’) borrowers should be more affected.”

Range of options included carve-outs and full repeal

Officials suggested five options, including:

* doing nothing more than the March tweaks;

* carving out specific types of lending, lenders or consumers “where there is a higher underlying risk of substantial hardship,”;

* changing the specific rules around expenses, surpluses and exceptions;

* lowering the penalties and liability regime for loan managers; and,

* “repealing the affordability regulations.”

‘Give it time. Things are calming down’

Clark’s argued in the Cabinet papers in response that the March tweaks should be given more time to work, and that the initial kerfuffle was dying down as bankers and consumers became more familiar with the rules. He suggested the rules could not be blamed for all of the recent cooling in the housing market and that banks were doing just fine with the tighter rules.

“I consider that lenders are further refining their processes and consumers are becoming more familiar with the new requirements. This can be seen through lending complaints to the Banking Ombudsman falling 21% in the March 2022 quarter.

“In addition, while housing market headwinds and rising interest rates mean that banks have commercial incentives to continue de-risking their loan books, we have seen bank loan assets grow to $531 billion in April 2022 and bank quarterly profits reaching a record $1.8 billion in the first quarter of 2022.” Clark in Cabinet papers.

Clark said he concerned carving banks and/or mortgages out would likely harm consumer protection and reduce competition. He also pointed out banks had not wanted the original act to only target ‘high risk’ borrowers because they said then carve-outs were not workable or desirable.

“I anticipate that the initial changes together with further changes to address issues with certain provisions in the CCCFA regulations will sufficiently address the drivers of any unintended impacts, and as described above, there are already signs of improvements in lender processes and consumer experiences.

“This is reflected in recent data shared by the Banking Ombudsman, which indicates that, after an initial spike following the 1 December changes, lending complaints fell 21% during the March 2022 quarter. The biggest change has been in home loan complaints, which are down 37% after a rise of 19% the previous quarter. Complaints about personal loans also fell 18%, while credit card complaints remained steady.” Clark.

‘Two-tier system risked discrimination and gaming’

Clark also argued carving banks, mortgages or ‘low risk’ borrowers out of the CCCFA risked those borrowers and firms outside the regime being discriminated against and out-competed by the ‘favoured’ sectors and products.

“For example, I am informed by financial mentors that even where borrowers use lenders with low default rates and ‘low risk’ credit such as mortgages, an unexpected expense may find them going without essentials or living off food parcels in order to meet payments. I consider that this risk is exacerbated by a higher than normal interest rate environment, where people refinancing will face ongoing servicing costs higher than they have historically.

“This would suggest that whilst targeting the scope of the affordability regulations to exclude mortgage lending would increase access to credit to first home buyers, it would likely come at the cost of consumer protection and result in an increase in this kind of substantial hardship.

“Targeting borrowers with particular characteristics (e.g. low credit scores, or low income) could incentivise lenders to refuse lending to those borrowers, even when it might otherwise be affordable. This would exacerbate existing barriers to them obtaining safe credit and may lead them towards less scrupulous lenders.

“Similarly, specifically relaxing affordability requirements for a lender’s existing borrowers (one of the options discussed in the Report) could lock vulnerable borrowers into predatory lenders and reduce competition.

“Whilst further changes to target the scope would address the issue of the Regulations impacting borrowers who might not be considered high-risk, I am concerned that any further changes to target the scope of the affordability regulations would significantly reduce consumer protection and that the benefits of doing so would be marginal.” Clark.

Banks say Clark ‘wrong’ not to carve them out

NZ Bankers Association CEO Roger Beaumont said Clark took the wrong option presented to him in the report and should have instead targeted affordability regulations at riskier lending and lenders.

“The best option presented to him would have been to target affordability regulations to riskier lending and lenders, as well as make changes to the penalties regime.

“Targeting affordability requirements to support those most at risk would provide them with appropriate protections as well as freeing up lending for those who can afford it.” NZBA’s Roger Beaumont

My view - Deliberately or otherwise, brokers and banks found the CCCFA changes a convenient scapegoat from October to February as they scrambled to dampen down their higher LVR lending to meet the Reserve Bank tightening of LVR speed limits in October. It’s much easier for bankers blame the Government for ‘crazy red tape’ than the Reserve Bank, which gives them their licenses to lend and profit.

Clark fought well not to see the baby thrown out with the bathwater. Aotearoa-NZ’s housing market could do with as much deleveraging as possible, and the CCCFA was just one element in a required tightening of belts.

There was an ugly whiff of entitlement among many borrowers used to getting fresh batches of leverage to buy multiple properties, and among many brokers, agents and vendors used to their ‘birthrights’ of ever-rising house prices.

The party ended because it got too rowdy and someone rang noise control. The gracious thing to do would be to go home quietly and not yell insults at the noise control officer. More than a few will thank the grownups later for not having that 17th drink and the pounding hangover that followed.

Elsewhere in business, finance, the economy and markets

Milk frozen - Trade in A2 Milk shares on the NZX was halted after an unexplained 8.6% spike in its share price to $5.42 and pending an announcement. The AFR reported A2 Milk may be about to get approval to export its infant formula to the United States, but A2 said that was not certain. NZX

Rates up - The Reserve Bank of Australia hiked its cash rate by 50 basis points to 1.85% this afternoon, which was its third consecutive 50 basis point hike and in line with market expectations. However, the Bank raised its inflation forecast for this year to 7.75% from 6% previously and cut its growth forecast to 3.25% from 4.25%.

Heads up - The United States killed al Qaeda leader Ayman al-Zawahiri with a missile strike from a CIA drone in the centre of Kabul today. Reuters

Watch out - Chinese fighter jets buzzed the median line in the Taiwan Strait last night ahead of the arrival in Taipei of US Speaker of the House of Representatives Nancy Pelosi. China has threatened military action and US President Joe Biden advised her not to go. Even Taiwanese officials are not thrilled. Reuters

Heathrow halt - British Airways stopped selling tickets on flights to the rest of Britain and Europe for the next two weeks from Heathrow because of a 100,000 per day cap on passengers imposed by the airport amid historically high levels of cancellations, baggage mishaps and delays because of Covid-related staff shortages. BBC

Comment of the day on The Kaka

UBI beats a jury-rigged, partial and targeted one-off payment

“Just call the cost of living payment a stimulus payment, pay it to everyone and then the worriers can stop worrying about it. 1. it's not a lot of money, so it looks inadequate as an energy/food fix, but as a bonus stocking stuffer, bravo! 2. admin problems of 1% isn't a bad metric, but you look a lot better if you just say, Kiwi citizens? We feel for you. Here you go. Anywhere in the world! When I woke up I didn't think I'd be praising the US social safety net - lol - but that's the way they did it, and it seems..... benevolent?” Duane in yesterday’s Pick o’ the links.

Some fun things

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: Despite warnings from China of a military response and Joe Biden’s advice that she not go, Nancy Pelosi was confirmed overnight to be planning to visit Taiwan on Wednesday.

Also, recessionary winds kept blowing through the global economy overnight, with weaker factory output reported in the United States, Europe and the United Kingdom overnight, along with a cratering of German retail sales.

But there was good news on the food and energy inflation front with Ukraine’s first grain shipment leaving its Black Sea port since Russia invaded in February and crude prices falling 3-4% overnight on the growing talk of less demand in recessions. And in European financial markets, fear about Italy’s debt receded somewhat as it became clear a far-right party likely to be in Government would abide by fiscal rules.

Paid subscribers can see more detail and analysis below the paywall fold and in the podcast above.

Nancy decides to go there

Various news outlets reported this morning that US Speaker of the House of Representatives, Nancy Pelosi, will visit Taiwan’s President Tsai Ing-wen in Taipei on Wednesday, risking the wrath of China’s military, which is conducting live firing drills in Taiwan Strait and has threatened to act if she goes.

China’s ‘wolf warrior’ diplomat Zhao Lijian said the visit of the third-ranked US leader to Taiwan would “lead to egregious political impact.”

"We would like to tell the United States once again that China is standing by and the Chinese People's Liberation Army will never sit idly by, and that China will take resolute responses and strong countermeasures to defend its sovereignty and territorial integrity." China’s Foreign Office Spokesman Zhao Lijian via Xinhua

Recessionary winds gather

Purchasing Manager Indices out overnight from surveys of factories in the United States, Europe, Asia and the UK in July show output and orders slowing across most of the global economy.

The US Institute of Supply Management reported its overall index fell to 52.8 in July from 53 in June, which was its lowest reading since June 2020, although any reading above 50 indicates factory output is still expanding. However new orders fell for the second consecutive month. The Euro zone’s PMI fell below 50 in July for the first time since June 2020. Reuters

Elsewhere, German retail sales fell in the first half of 2022 by the most in nearly 30 years . Real retail sales were down 8.8% in June from a year ago, which was also worse than economists’ expectations for a fall of about 8%. Reuters

When bad news is good news

However, all the talk of recession was good news for buyers of petrol and diesel. Oil prices fell 4-5% overnight, with West Texas Intermediate down 5% to just under US$94/barrel and Brent crude down 4% to US$100/barrel.

These falls in crude prices and the removal of a temporary rise in profit margins here in Aotearoa-NZ has seen petrol prices drop sharply in recent days, although the fuel tax levy cuts introduced ‘temporarily’ have been extended into next year.

These signs of lower commodity prices have also allowed longer-term wholesale interest rates to ease, including the US 10 year Treasury yield falling a further five basis points overnight to a four-month low of 2.59%.

European interest rates also fell. The yield on Italy’s 10-year debt fell below 3.0% for the first time since May after Giorgia Meloni, who heads the right-wing Brothers of Italy party and may become Prime Minister, said she would comply with EU budget rules. The key spread between Italian and German bonds, which measures fear of Italian default, fell to 220 basis points.

Better news on food inflation too

Food supply fears may also be about to ease. A grain shipment left the port of Odessa overnight as part of a deal to resume movements of bulk grain from Black Sea ports in an effort to reverse higher food prices in the Middle East and Africa. The Razoni, carrying 26,000 tonnes of Ukrainian corn, embarked early this morning NZ Time after weeks of negotiations brokered by Turkey and the UN.

It was the first shipment from Odessa since Russia invaded Ukraine in late February.

Chart of the day

More units than standalone homes

Statistics NZ yesterday reported building consent figures for the year to the end of June, including the first ever June-year total where consents for units, townhouses and apartments were greater than for stand-alone homes.

There were 26,823 multi-unit homes consented in the year ended June 2022, up 36% from the year ended June 2021, while there were 23,913 stand-alone houses consented, down 3% from a year ago.

Number of the day

Not back to 1973 highs yet

9.9 per thousand - Also in the Statistics NZ report, the number of dwellings consented per 1,000 residents across New Zealand was 9.9 for the year ended June 2022, compared with 8.7 in the year ended June 2021. The record number of new dwellings consented per 1,000 residents was 13.4 in the year ended December 1973.

Quote of the day

Chris Bishop vs NIMBY protestors in Auckland on Sunday.

“I became a father a month ago, and I don’t want my son to grow up in a country and turn 30 in a country where the average house is not $1 million, but $2m, and he doesn’t have any hope of getting on to the housing ladder.” National’s Housing Spokesman Chris Bishop to a rally in Auckland on Sunday, via Stuff.

Some fun things

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: Just as our borders finally open fully today, economists are expecting jobs and wages figures this week to show unemployment fell to as low as a fresh record-low 2.8% in the June quarter, although average hourly wage growth rising to around 5.8% would still be under the CPI inflation rate.

The figures are likely to ramp up the pressure on the Government to loosen rules for temporary workers’ visas, especially if the hoped-for flood of backpackers and a few students to bolster the workforce for the summer doesn’t build quickly from the full border opening today.

Paid subscribers can see more detail and analysis below the paywall and in the podcast above.

Looser migration settings will come, sooner or later

The National-ACT Opposition’s calls for an immediate and wide opening of the migration tap are gathering steam as fast as a host of health, hospitality, travel and other services are wound back due to staff shortages, and as calls grow from businesses to nip any wage-price inflationary spiral in the bud.

Behind in the polls, the pressure will become intense on Labour over the next year, given population pressure on infrastructure and house prices is lower after two years of closed borders. There’s also a swathe of less-tied-down younger resident workers leaving for OEs and higher wages with lower living costs overseas. They will need replacing. High inflation is a new force pushing for more occupations to be put on skills shortages lists and for more generous residency enticements.

Labour has argued over the last couple of years that tight migration settings were needed to offset pressure on existing infrastructure, house price affordability and the wages of lower-paid workers. Those arguments are dissolving in the short term as house prices fall, population growth has stalled and wage growth perks up towards 5-6%, even if it is below current CPI inflation growth of 7%-plus.

Statistics NZ is due to release jobs, unemployment and wages data for the June quarter on Wednesday. Economists are expecting a fall from 3.2% to just under 3.0%, with some seeing it down as low as 2.8%. That would be below the Reserve Bank’s forecast for 3.1% unemployment and keep the pressure on for another 50 basis point hike on August 17 to 3.0%. However, the growing signs of impending recessions globally are continuing to drag global wholesale interest rates lower.

Our own wholesale ‘swaps’ rates fell by around 30 basis points last week, with the two year swaps rate ending on Friday at 3.74%. That means markets now see an OCR peak of around 3.8% later this year, before cuts next year. Further cuts in one or two-year fixed mortgage rates in coming weeks are now more likely, although very strong jobs and/or wages growth numbers this week would stop that.

So what? - Labour may choose before the next winter’s flu season to pull hard on the migration lever to scuttle National’s continued calls before the election. It no longer has rising house prices, suppressed wages and surplus labour as reasons to keep the controls tight. National has already promised to loosen the taps as soon as it’s elected. That means looser migration settings are likely, sooner or later.

Elsewhere in the news here and overseas this morning:

Pelosi playing with fire over China

China’s military is on high alert this morning as US Speaker of the House of Representatives, Nancy Pelosi, took off last night for a trip to a range of Asian capitals, including the possibility of a visit to Taiwan. Officials said she would visit Singapore, Malaysia, South Korea and Japan, but did not rule out a long-promised trip to Taipei, despite warnings from the Pentagon it would be too provocative. China’s armed forces are planning live firing drills in the seas near Taiwan this week and one pro-Government Chinese commentator tweeted yesterday: “it is OK for the PLA to shoot down Pelosi’s plane.” Reuters

So what? - This might turn out to be nothing. Pelosi’s previous plan to visit Taiwan was scuppered by a bout of Covid and she could still decide not to touch down in Taipei. But Pelosi has a long history of campaigning for civil rights and democracy in China and she is being egged on by both sides of Congress, who want to show they’re not afraid of Beijing. Joe Biden also isn’t allowed to stop her, although he has indicated he doesn’t want her to go.

Experts watching this are particularly alarmed. Various figures in the Chinese military and leadership have warned of actual military clashes if Pelosi does actually go to Taiwan. If this kicks off, buckle up, because a serious military conflict would make the global trade disruptions due to the Ukraine war look like a picnic.

China is much more interwoven in the global trading system than Russia was and, of course, it’s much more important to our trade relations. There would be a double whammy effect, firstly on our own direct trade with China, and then a secondary effect because China is Australia’s largest trading partner and Australia is our second-largest trading partner.

Also, keep an eye out for a speech to an Auckland business audience later today on our China relations from Prime Minister Jacinda Ardern, which she’ll deliver before a quick cross-party visit to Samoa this week.

Unexpected fall in China’s factory output

Data out yesterday showed China’s factory activity contracted unexpectedly in July, hampered by the ongoing effects of rolling Covid lockdowns to preserve President Xi Jinping’s elimination policy. China’s official manufacturing purchasing managers' Index (PMI) fell to 49.0 in July from 50.2 in June, with any result under 50 indicating a contraction in activity. The result was the weakest in three months and below economists’ expectations for about 50.4.

So what? - China’s economy barely expanded in the first half of 2022 because of savage lockdowns in Shanghai and in other cities that produce more than half of our largest trading partner’s GDP. China now looks very unlikely to meet its self-imposed target for 5.5% GDP growth in 2022 and seems ambivalent for now about unleashing yet another debt-fuelled local infrastructure binge to catch up.

That’s partly because Beijing is still surveying the wreckage of China’s apartment development bust and how to ensure it doesn’t unravel social cohesion. Pulling the property development lever would simply kick the big clean-up can down the road. Beijing has its hands full cleaning up the mess, without trying to kick off yet more projects in ghost cities.

Over 90 million apartments are either unoccupied or unfinished in China and the big news in recent weeks has been a growing boycott of mortgage repayments by owners of uncompleted apartments who paid upfront. Over the weekend, China’s leaders issued a vague statement about supporting the economy after a key meeting of its 25-member Politburo (a bit like our Cabinet), which disappointed some who were expecting a massive new stimulus plan.

This is another one of of those ‘watch this space’ items in the global economy for us. For example, over the weekend the largest of the apartment developers in China, Evergrande, failed to meet a self-imposed deadline for a detailed restructure of its US$300b of debt, of which US$20b is owed to foreign investors. This is all another headwind for the global economy and supporting the arguments of those who see inflation as having peaked and short term interest rates likely to fall next year.

Quote of the day

This is serious

“If she goes, there will definitely be a Taiwan Strait crisis, and it will definitely exceed the last one in 1995-1996. That is because China’s military capabilities by far exceed those of 26 years ago.” Wu Xinbo, director of the Center for American Studies at Fudan University in Shanghai via FT-$$$

Number of the day

US$30b - The profits reported by Exxon/Mobil and Chevron in the June quarter, which were triple their profits from the same quarter a year ago.

Chart of the day

Italian debt now seen riskier than Greek debt

Some fun things

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: This week, National called for an independent review of the Reserve Bank’s unleashing of a ‘tidal wave of cash’ during Covid after a former Governor joined a chorus of critics, which Finance Minister Grant Robertson dismissed as ‘hindsight economics’.

Also in the news in global geo-politics and our political economy:

* China warned the United States it was ‘playing with fire’ by planning to send House Speaker Nancy Pelosi to Taiwan;

* Russia halved its gas supplies to Europe, forcing it to plan voluntary consumption cuts of 15% that economists see as recessionary;

* the US economy entered a technical recession, which stock investors celebrated because they think it means the US Federal Reserve won’t have to hike interest rates quite so much; and,

* Democratic Senator Joe Manchin backflipped on his opposition to higher taxes on US companies and hedge fund managers to pay for climate emissions reduction measures.

In this week’s ‘hoon’ webinar for paid subscribers to The Kaka at 5pm yesterday, I discussed these and other events with co-host Peter Bale and special guest Josie Pagani. The audio of the hour-long webinar is in the podcast above.

Elsewhere in the hoon above, we talked about Russia’s decision to end the International part of the International Space Station and the death of James Lovelock. Here’s Peter’s Weekly World Bulletin email newsletter for more background.

The highlights on The Kaka this week

In Monday’s Chorus, I made the case for profitable and dividend-paying companies to repay the remaining $19b of their Covid wage subsidies and for the beneficiaries of over $500b of land appreciation paying a Covid windfall tax.

In Tuesday’s Chorus, I covered former Governor Graeme Wheeler’s criticism of the Reserve Bank, including a pointer back to my call last week for a full independent review of its operation of monetary policy.

In Wednesday’s Chorus, I looked at National’s call for a review and why it had put Governor Adrian Orr’s reappointment for a second five-year term from the end of next March in doubt.

In Thursday’s Chorus, I dived into the positive reaction to the Fed’s second consecutive 75 basis point hike this week and why global investors and traders are now betting on a soft landing for the US economy.

In Friday’s Chorus, I covered the US economy’s surprise fall into a technical recession in the June quarter, and what that might mean for interest rates and house prices here in Aotearoa-NZ.

This is my weekly summary and sampler of the big news of the week we’ve covered on The Kākā for both free and paid subscribers. The public interest journalism I do daily on housing unaffordability, climate change inaction and poverty reduction is possible with the support of paid subscribers. Join our community by subscribing in full.

A reminder to free subscribers reading here that we have a special $30 a year deal for under 30s and anyone on a benefit. We also have a new special $65 a year deal for over 65s who are renting and reliant on NZ Superannuation. Any students, teachers and staff who signs up to the free tier with a .school.nz or .ac.nz email address will also be comped up to the full paid tier for free.

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: The world’s biggest economy fell into a surprise technical recession in the June quarter, forcing wholesale interest rates lower overnight and extending Wall St’s rally because stock investors love lower interest rates.

Elsewhere, geo-politics is no calmer. China’s President Xi Jinping warned US President Joe Biden in a phone call overnight not to ‘play with fire’ by allowing US house speaker Nancy Pelosi to visit Taiwan next month.

And just in case we’d forgotten about North Korea with all the drama in Europe, Kim Yong Un said overnight the Korean peninsular was on the ‘brink of nuclear war’ because of major military exercises planned for next month by US and South Korean forces.

Paid subscribers can see more detail and analysis below the paywall fold and in my podcast above. Paid subscribers are also welcome to jump on to my weekly Ask Me Anything comment threat at midday today for an hour and then join co-host Peter Bale and myself for our weekly ‘hoon’ webinar to wrap the week’s news in geo-politics for an hour at 5pm. We may have special guests. Here’s the link.

America appears to be in recession already

US GDP fell - The US Bureau of Economic Analysis reported overnight that real US GDP fell at an annual rate of 0.9% in the June quarter, adding to the revised 1.6% fall in the annual rate in the March quarter. Real GDP fell 0.9% in the June quarter from the March quarter, after it fell 1.6% in the March quarter from the December quarter. This was worse than the flat result most economists had expected.

However, the United States actually has a special ‘X Factor’-style judging panel on whether there has been a recession or not called the National Bureau of Economic Research. US unemployment is still very low at 3.6% and few see it likely the NBER would declare a formal recession. Consumer spending and investment fell, but the biggest reason for the fall was a fall in inventories, which is one of those topsy-turvy GDP factors that shows falling numbers, but could actually be good news if the inventories were falling because businesses were selling heaps of stuff.

That bad news looked like good news to investors

Investors celebrated the ‘bad’ news - Yeah I know. Go figure, as the Americans might say. But markets are in a weird place right now where bad news is good news because it means interest rates are likely to fall and the US Federal Reserve is seen less likely to have to hike interest rates until the pips squeak. That’s why the S&P 500 was up 1.3% and the Nasdaq was up 1% at 7.30 am NZT, extending big rallies from Wednesday night.

The US two-year Treasury bond yield, which is often seen as a proxy for what markets think the Fed will do in the next couple of years, fell nine basis points to 2.87%. The US 10 year Treasury yield, which is a reflection investors’ inflation expectations and how much ‘real’ return investors expect, fell five basis points to 2.68%. Yeah I know. Go figure. Again. That means US Treasury investors are apparently happy with a real yield (ie after the effects of current inflation of 9.1%) right now of minus 6.5% or so.

The other thing we can deduce from these market yield figures is what investors in the world’s most liquid financial markets are expecting for US inflation over the next five or so years. This can be measured by subtracting out the inflation expectations in the inflation-indexed Treasury bonds from the non-indexed ones of the same maturity. You end up with something called the 5-year, 5-year Forward inflation indicator. Here’s the latest chart version from the Federal Reserve Board of St Louis (FRED).

So what? Global stocks are bouncing back on ‘hopes’ for a recession that take pressure off interest rates. Investors are collectively feeling the Fed is ‘pivoting’ to a looser stance, which will have boost asset prices again. Twas ever thus. A generation of investors have come to rely on the ‘Powell Put’ to rescue them. The previous generation had the ‘Greenspan Put’, referring to long-time Fed Chair Alan Greenspan.

Whether this ‘soft landing = Powell Pivot view’ actually turns out to be true is the thing to watch. If inflation doesn’t cooperate, all bets should be off.

My view (still) - But my long-held view (although I’ve been sweating on it a lot lately) is that the underlying deflationary forces of globalisation of services into Big Tech’s low-priced cloud, combined with still-weak labour power and the growth-sapping effects of rising inequality, will be more than enough for the low inflation to return. The caveats I’m keeping as my life rafts are a worsening of the war in Ukraine, wars in Taiwan and/or Korea (!), a new version of Covid that evades vaccines and a Trump re-election. Phew. Lots of outs there.

The US yield curve is inverted and that’s a reliable indicator

Yield curve inversion deepening - What those bond yields really indicate is investors and traders really expect this recessionary noise in the global economy to solve the Fed’s inflation problems without the Fed having to hike rates too much. The combined signal of the two and ten year yields is that the so-called yield curve (the 10-year yield minus the two-year yield) is flashing a red warning sign that there will be a recession. Last night’s data appears to show the United States is already in one.

Here’s FRED’s excellent measure of that so-called inverted yield curve. It’s a great leading indicator of recessions, which are the shaded lines in the chart.

So what? Global recessionary signals are most likely to force down Aotearoa-NZ’s wholesale interest rates too. They are the base for our fixed mortgage rates. So the noises we’ll all start hearing from the Reserve Bank and economists is that there isn’t such a need for such a high Official Cash Rate. The Reserve Bank and markets currently think it will have to rise from 2.5% now to 4% by the end of the year.

So what for house prices? - House prices here are falling here still, but they’re close to the trough of a 15% peak-to-trough fall from the November peak that is forecast by the Reserve Bank and some other banks. ANZ changed to a 15% fall last week. A big chunk of the outlook depends on the political outlook. Currently, National are ahead in the polls and are pledging to reverse the new interest serviceability rules, reverse the bright line extension and reverse the Healthy Home changes that made being a landlord less tax-advantageous and more costly. Along with that, National is likely to wind back or freeze infrastructure investments and Kāinga Ora’s building programme, which would depress the outlook for new supply growth.

So if National remain on track to win, there’s a combination of demand and supply factors that should see prices trough and start bouncing through into late 2023, including:

* houses more attractive again for landlords;

* mortgage rates falling again; and,

* new housing supply drying up and subbies and apprentices leaving for Australia.

Again, all bets are off if National Leader Christopher Luxon keeps shooting himself in the toes and that (currently) more benign inflation and interest rate outlook turns ugly. That means I’m watching the poll results as closely as I can and watching what is happening with global and local inflation, and of course, what central banks say and do about those.

Surely there’s enough geo-political drama around already?

Xi issued a fiery warning - China’s President Xi Jinping and US President Joe Biden had their first person-to-person phone call since March overnight, in which they discussed plans by US Speaker of the House of Representatives Nancy Pelosi (who is formally third in line to the President’s throne in the US system) to visit Taiwan next month.

China has warned the United States against the visit, arguing it would breach its ‘One China’ policy that is supposed to not recognise Taiwan as a separate country. President Xi was quoted in a statement after the call as saying: “Those who play with fire will perish by it. It is hoped that the US will be clear-eyed about this.”

So what? - The Pentagon has advised Pelosi not to go. She has already delayed once because she got Covid. But there’s a whole bunch of anti-China hawks on both side of politics in the United States who are egging Pelosi on. Biden, in theory, should be telling her to back off to calm things down. We should all watch this more closely over the next couple of weeks.

But wait, there is even more geo-political drama…

Seriously? Give us a break - Last night North Korea’s leader Kim Jong Un accused the US and South Korea of bringing the Korean peninsula to the “brink of war” because the US and South Korean militaries are planning their first large-scale physical exercises in four years.

Just for kicks, Kim said North Korea would “wipe out” South Korean forces with nuclear weapons if a conflict started. Sheesh.

“Our armed forces are completely prepared to respond to any crisis, and our country’s nuclear war deterrent is also ready to mobilise its absolute power dutifully, exactly and swiftly in accordance with its mission,” North Korean media reported Kim as saying.

“It is a suicidal act, and absurd and extremely dangerous, to talk about military action against our country when we actually already have the most powerful weapon which you fear the most.”

The last big military exercises were scaled down in 2018 just before then-President Donald Trump met with Kim. Since then, they’ve been doing their exercises over the encrypted versions of Zoom.

Time for some light relief.

Some fun things. Unicorn edition

Ka kite ano

See and talk to you all in one form or another in the midday Ask Me Anything and the 5pm ‘hoon’ webinar.

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: Global investors and traders put on their rosiest-tinted glasses and looked through and past another historically large hike in the world’s most important short term interest rate this morning. They are betting mild recessions later this year in the United States, Europe and (possibly) China will do the heavy lifting needed to thump uncomfortably high inflation rates back down towards two percent next year.

The US Federal Reserve’s Chairman Jerome Powell encouraged that ‘soft landing’ view in a news conference this morning, suggesting the Fed may be able to slow down its monetary policy tightening because of an economic slowdown that has already started. The Nasdaq was up 4% in late trade and the all-important US 10 year yield was becalmed at 2.78%, indicating investors are confident the Fed has already beaten inflation.

Paid subscribers can see more analysis and detail on what the Fed’s actions and words mean for our economy and fixed mortgage rates below the paywall fold, and in the podcast above.

Powell puts a lid on rate hike expectations

It’s 75 - The US Federal Reserve announced it had hiked its key short term interest rate by 75 basis points to a range of 2.25-2.5% this morning in an effort to get annual inflation of 9.1% back under control. The hike in the Federal Reserve’s Funds Rate, its version of our overnight cash rate, was in line with market expectations. It was a second-consecutive 75 basis point hike and the fastest tightening of US monetary policy since the Fed began using the current funds rate system in the early 1990s.

Few fears - However, investors and traders still think the Fed will have to start cutting the rate again next year as looming recessions in the United States and elsewhere suck inflationary pressure out of the global economy, and because higher longer-term wholesale interest rates and price spikes in fuel and food have have already taken the edge off consumer spending appetites that had been pushing prices up. CNBC

So what? - The Fed Funds rate is the most important interest rate in the world. It effectively sets the base for everything else, including the ones we pay or receive here. Expectations about where the Fed Funds rates is going drive most of the moves in longer term interest rates globally, including our ‘swaps’ rates underpinning our fixed mortgage rates. But what the Fed is doing right now is actually less important than what investors and traders think it will do in the next year or two. Right now, they’re looking out past today’s hike, especially given it was in line with their forecasts, to what the Fed might do later this year and early in 2023.

Soft landing bet - Currently, they see the Fed Funds rate peaking around 3.25% to 3.5% later this year, before being cut back to this new 2.5% level by the end of next year as probably mild recessions in the United States, Europe and even China do a lot of the Fed’s inflation fighting work for it. They’re betting on a soft landing.

Elsewhere in the news here and overseas this morning:

Nuclear back-track - Germany’s Finance Minister Christian Lindner said overnight Germany should extend the life of its three remaining nuclear power plants that produce 6% of its electricity. He said it should also possibly even reopen some plants mothballed by the previous German Government after the Fukushima nuclear disaster just over a decade ago. The back-track comes after another 30% rise in gas and electricity prices in Germany this because of Russia’s decision to halve gas flows through its Nordstream 1 pipeline to just 20% of capacity. Electricity prices have quadrupled in Europe over the last year. Cleanenergywire

So what? - When even a Government that includes a Green Party at its heart is considering nuclear instead of relying on Russian gas, then it’s clear hearts, minds and levels of urgency are rapidly changing about what type of power will bridge the gap to fully renewable electricity, and how quickly it should be done.. Until Russia’s invasion of Ukraine in late February, Europe had been betting on gas being the least climate damaging and cheapest way to transition between replacing coal and oil with solar, wind and hydro-electric power. Nuclear is the rubicon yet to be crossed by Green parties here. We’re getting closer.

Woah Wuhan - Remember Wuhan? Last night Beijing ordered the closure of some businesses and public transport in a part of the megalopolis of Wuhan in western China because of outbreaks of new much more infectious strains than the one that caused Wuhan’s lockdown in early 2020. An area with just over one million people was shut down immediately last night after the discovery of several new Covid infections.

So what? - China’s strict adherence to the elimination strategy we had to abandon late last year is throwing regular roadblocks in front of its attempt to restart an economy hit hard by massive lockdowns in Shanghai and Beijing in the June quarter. President Xi Jinping is seen locked in to his elimination strategy until at least November, when he is expected to be confirmed as ‘leader for life’ at a major Communist Party Congress. Until at least then, the economy of our largest trading partner will keep coughing and spluttering as consumers stay away from the hot-pot restaurants that buy our lamb and economise on cheaper protein.

For the record here in Aotearoa-NZ yesterday

Carbon costs jump - The Climate Commission yesterday recommended tighter controls for our Emissions Trading Scheme. Carbon prices on the ETS rose yesterday after the announcement to $80/tonne for spot contracts and futures for April 2027 rose to $103/tonne.

Plasterboard coming - Housing and Building and Construction Minister Megan Woods announced the first results from her plasterboard taskforce, including that 100 containers with 220,000 square metres of plasterboard (enough for around 440 homes) were on their way to Aotearoa-NZ and would arrive in the ‘coming weeks.’

More confident - Kāinga Ora had also agreed to buy alternatives to Fletcher Building’s Gib for its next year of retrofits (400 houses) and Woods cited an MBIE survey of industry participants showing half were confident when deciding about substituting other brands for Gib. She said Elephant Board, USG Boral, ProRoc and SaveBOARD were all now approved under the Building Code as alternatives.

Charts of the day

Slowing growth with assumed 25,000 a year net migration

Stats NZ published its first population projections in two years yesterday, including these charts with their central projections of the population growing from around 5.1m now to around 6m over the next generation of 25 years or so. That depends on net migration being assumed at around 25,000 a year over that period, down from as much as 100,000 per year pre-Covid, and that our population continues to grow older and have fewer babies.

Migration & population growth was under-estimated in 1990s & 2000s

Population forecasts through the 1990s and early 2000s were consistently lower than actual population growth through the first 20 years of this century, mostly because migration was under-estimated.

So what? It meant low population growth was used as one of the reasons for not needing to invest in infrastructure. The trouble is migration was used as a lever to generate cheap GDP growth that generated budget surpluses quickly and pushed up house prices, particularly given the starvation of infrastructure investment by the Government and Councils that use these forecasts to base their long-term plans on.

Number of the day

2.1 - Stats NZ projected there will be 2.1 15-64 year olds supporting one over 65-year-old by 2073, which is down from 4.0 working-age people now and 7.1 in the mid-1960s.

So what? Taxes and/or debt will have to rise if we are to keep our existing public health and pension entitlements, with the current burden heaviest on PAYE and GST payers in that 15-64 age group. The other option is speeding up economic and real wage growth through a burst of public and private infrastructure, R&D and business investment. But that would also require higher and new taxes too.

Rinse and repeat.

Quote of the day

Grant Robertson had some fun in the General Debate in Parliament

“Mr Luxon and I are both children of the 1970s and '80s—that golden era when New Zealand had two TV channels and a ratio of sheep to people to make anyone scared. We grew up with TV shows set in exotic locations: Magnum, P.I., Hawaii Five-O, Close to Home. All these shows made rural Bay of Plenty look marvellous! No wonder Mr Luxon dreamt of holidays on the sun-drenched beaches of State Highway 33! In the morning yesterday, when confronted with his mysterious time and hemisphere bending, Mr Luxon finally said what his social media posts did not: "I went to Hawaii in July, as I tend to do." I'm not exactly sure how relatable that is. In July, I tend to remember that I haven't cleaned the guttering out and that's why there's a massive waterfall going down my property, but each to their own.” Grant Robertson via Hansard.

Some fun things

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: Adrian Orr’s reappointment as Reserve Bank Governor for a second five-year term from the end of next March is now a live political issue after National Leader Christopher Luxon said he wanted an independent review into the ‘tidal wave of cash’ printed by the central bank in 2020 and 2021 before any decision on Orr’s future was made.

Finance Minister Grant Robertson immediately refused yesterday to agree to a review and said he was in discussions with the Reserve Bank’s board about the re-appointment process. He reaffirmed his confidence in Orr.

The problem for Robertson, Orr and the board is that Orr’s current five-year term ends on March 27 and any reappointment is now clearly a contested issue. This is just a few months before what would normally be a ‘caretaker’ period in Government, during which appointments to powerful independent and statutory roles are usually either put on hold or quietly agreed behind the scenes.

Paid subscribers can see more detail and analysis below the paywall fold and in the podcast above, including audio of my questions yesterday to Luxon, Nicola Willis and Robertson.

A reappointment now in doubt

The presumed application for and reappointment of Adrian Orr as Reserve Bank Governor for a second five-year term is now in doubt after the intervention of the Opposition to call for an independent inquiry into the bank’s printing of $55b of money under Orr to buy Government bonds.

Finance Minister Grant Robertson, who has the ultimate say on whether Orr gets the job again when Orr’s term expires on March 27, must decide whether to push through the appointment of this key statutory role in the face of opposition from the party that may be Government within months of Orr’s reappointment.

Usually, any contested situations such as this, is put on hold or a solution is agreed quietly behind the scenes if it is close enough to the caretaker period.

Robertson was certainly combative yesterday when responding to the call for an inquiry.

“I don't think Mr. Luxon has any moral high ground on this. There will inevitably be space for us to look at all manner and aspects of the response. And I'm sure the Reserve Bank will do its bit in there, but the point I'm making here is that I vividly remember calls from National Party to spend more money than we did supporting businesses." Grant Robertson.

Asked if New Zealand should do what Labor Treasurer Jim Chalmers announced last week (an independent review of the Reserve Bank of Australia), Robertson said: "I just did that, and I don't think I'll put the Reserve Bank through that again."

Meanwhile, Orr himself was in a combative mood too, issuing a news release late in the day yesterday in response to critics of the bank, that reaffirmed Reserve Bank was doing its own regular five-yearly review of policy and would learn from what happened in 2020 and 2021.

‘Regrets, he’s had a few, but then again, too few to mention’

The ‘regret’ word was used in such a statement for the first time, although Orr stopped short of admitting mistakes or responsibility for inflation running at 7.3% (bolding mine).

“I regret that the Committee – and society at large – has been confronted with the COVID-19 pandemic, and other recent events that have caused food and energy price spikes. We are a learning institution, and through the open process of the Remit review and the monetary policy review, we will be very clear on our lessons learnt as we forever seek to do a world class job for the people of New Zealand.” Adrian Orr

So what? - Both Orr and Robertson now have tougher decisions to make in the coming months, along with the Reserve Bank board. If Orr and Robertson push ahead with a second term, they are essentially betting Labour will win the next election. If they are worried about the risks to the independence, or even the perceived independence of the Reserve Bank, then they may choose to hold off.

Orr’s predecessor, Graeme Wheeler, decided not to seek a second term in 2017 after it became clear he was not flavour of the month in the Beehive, even though it appointed him in 2012. Wheeler pushed for the introduction of LVR controls in 2013 and a DTI in 2017. They were unpopular with then-PM John Key and he decided not to run again. An interim Governor, Grant Spencer, was appointed for the crossover period that covered the 2017 election.

Ultimately, that may be the fallback position if the heat gets too hot. Orr would have to decide not to reapply and an interim would be appointed for a short period until the election result was clear.

A Rubicon is crossed

Luxon crossed a Rubicon of sorts yesterday, but it was deserved. The Reserve Bank’s decision in early 2020 to unleash money printing, remove LVRs and give billions in cheap loans to banks for them to pump on into higher house prices was itself a political move. By choosing to use the wealth effect to rescue the economy, it was making both a monetary policy decision and a wealth redistribution decision, which was to make one section of society (home owners) much wealthier at the expense of the rest (young renters with renting parents, and their unborn children.) It did so at the risk of an inflationary surge that would hurt renters on precarious and low incomes much harder than asset owners.

Accidentally on purpose, Adrian Orr and Grant Robertson agreed the best way to rescue the economy was to create a new housing boom. None of the new lending unleashed by QE, LVRs and FLP went to businesss or job creation. It went straight into open homes and auction prices.

But also to be fair to the Reserve Bank, it made that decision with the clear and clearly-advised approval of the Government of the day through Robertson. Treasury told Robertson the money printing would boost asset prices. It turned out that approval, came from a Labour Finance Minister, but could just as easily have been a National Government.

What was the alternative?

The Reserve Bank could have chosen not to remove the LVRs, a move other central banks did not do, or introduce cheap loans for banks, which only a few other central banks did. The Reserve Bank could have chosen to distribute stimulus directly as one-off helicopter cash payments to consumers. That may have created inflation, but not the massive asset price inflation we saw due to the unleashing of massive new bank leverage in the form of new mortgages. I opposed QE and the LVR removals, and proposed ‘QE for the people’ (helicopter money) from the start.

I also think the scale of the $20b in cash payments to businesses was too much, and not necessary after the end of the first lockdowns. Ultimately, those payments were put straight into the bank accounts of home owners, and were weaponised by extra mortgage lending through late 2020 and early 2021. The $20b of cash paid to asset owners and the $55b printed to buy Government bonds off banks and pension funds were in effect metastasized into a 45% rise in house prices, which made home owners more than $500b richer.

A supposedly independent central bank that was supposed to be focused solely on keeping inflation low and our financial system stable, ended up working with a Finance Minister to spark a once-off redistribution of wealth from one group in society to another.

Were they hoping no one would notice?

There were always going to be consequences. Now they’re starting to dribble out at the edges through the likes of this call for an inquiry and doubts about the reappointment of the Governor (and the Government) that did it.

Would a National Government have done any differently? I doubt it. The wealth shift benefited the median voters that both major parties need to win elections. National has also not framed this issue as a wealth redistribution issue. It has framed it as a cost of living issue. The subtext is that higher inflation creates the danger of higher interest rates, which in turn risks reversing some of the multi-decade capital gains created by lower-than-expected inflation from 1990 to 2020.

This use of the arms of the state to rescue and benefit asset owners was not unique to Aotearoa-NZ. Every major central bank in the world did it repeatedly during the Global Financial Crisis and through much of the following years, until a major acceleration in 2020 and 2021. They too used their independence to rescue banks and keep asset owners confident and whole.

Few of the bankers for the GFC were prosecuted. Almost all kept their jobs or were soon employed again and earning bonuses. If you can’t remember or weren’t around, have a read or watch The Big Short again (or for the first time). Effectively, central banks and Governments ‘got away with it’ in the 15 years to Covid, although the Tea Party, Trump and Brexit political reactions could be seen partly as the political revolts in response.

The difference for us here in Aotearoa-NZ is that our central bank and Government did it for the first time deliberately in 2020, and at a much greater scale than the rest, once the LVR removal and the Funding For Lending programmes are accounted for. Our house prices rose by much, much more than in other economies where other central banks printed money.

I think we saw an early preview of it here in late 2008 and early 2009 when the Reserve Bank lent $7b to banks so they could roll over their frozen loans on international markets through a little-known Term Auction Facility, and when first Labour and then National Governments created temporary wholesale and retail deposit guarantees for banks and finance companies in late 2008 and 2009.

What an (unlikely) inquiry should examine

The question is whether any independent inquiry in the Reserve Bank’s actions happens (unlikely) and if it did, whether the redistributive aspects and morally hazardous aspects would be examined (even more unlikely).

Ultimately, there will be a political fallout over many generations. Social licenses will be lost, if they haven’t already been. Governments will change and maybe laws will be rewritten. Or maybe nothing will change. Little has changed of substance in the United States and Europe. The same central bankers and finance ministers are in place with the same powers. The only difference is they don’t have the excuse of low inflation any more, although it is a very useful way to inflate away Government debt…

The most interesting question for me right now is whether National launches an independent inquiry if it wins Government late next year, and whether it will ask these sorts of questions about the redistributive consequences. It will depend on who it has to partner with. If TOP and/or Te Pāti Māori are part of any coalition, these would be sorts of questions that could be inserted.

Elsewhere in the news here and overseas this morning:

Down and up -The IMF slashed its global GDP growth forecasts for this year and next year overnight in its latest Global Economic Outlook report, but also sharply hiked its forecast for inflation. (See details below in Charts of the Day)

Demand destroyed - The world’s largest retailer in the world’s largest economy, Walmart, warned late yesterday that consumers were pulling back from spending because of the shock of higher prices. Walmart shares dived 8% overnight, dragging shares in a host of retailers such as Macy’s and American Eagle with it. Reuters CNBC

Prices hiked - Amazon increased its delivery fees and streaming prices for Prime in Europe overnight. Its shares are slumping this morning after it reported a US$3.8b loss for the quarter. The S&P 500 and Nasdaq were down 1-2% in late trade. CNBC

Yeah…nah - Pension fund managers published voting records overnight showing they are pulling back from supporting ‘ESG’ resolutions at annual meetings. Under pressure from ‘anti-woke’ political campaigners in the United States and savers worried about their returns, big pension fund managers such as BlackRock and State Street released voting records showing their rate of support for ‘ESG’ proposals on issues such as climate, diversity and other social issues had fallen in the latest round of meetings. FT-$$$

On…off - Russia’s state-controlled Gazprom further squeezed gas supplies to Europe overnight, cutting flows through its Nordstream 1 pipeline to 20% of normal volumes from 40% faster than expected. European natural gas prices surged another 20% to early March levels, while wholesale electricity prices jumped in Germany to a fresh record-high of €370 per MWh, which was six times higher than their prices last year. In response, European ministers agreed to voluntarily cut gas consumption by 15% over the northern winter. Reuters

Consumers say no - US consumer confidence dropped for the third month in a row in July as the food and petrol price shock rippled through spending intentions. The US Conference Board reported its consumer confidence index fell to 95.7 from 98.4 in June. This was lower than economists’ forecasts for around 97.2. Reuters

So what? - Demand destruction and the sharp rise in wholesale longer-term interest rates over the last six months is doing the work of slowing demand in the biggest economies towards recessions. That has already dragged down commodity prices and markets are now betting this will slow inflation rates from their peaks in the June and September quarters of this year.

And then? - In turn, financial markets are betting, that means central banks will have to start cutting interest rates again by mid-2023 (See the chart just below). Assuming this pans out, that means mortgage rates here have already peaked and our economy will also head towards a recession caused by a slowing global economy, a 15% fall in house prices and the same demand destruction shock the rest of the world’s consumers are feeling.

Charts of the day

IMF forecasts slower growth and faster inflation

Quote of the day

Robertson says no to an Inquiry

“Captain Hindsight, Mr Luxon, needs to remember what he and his party said in that period of time. Most New Zealanders supported the reasons that we had to intervene both at a fiscal and monetary policy.” Grant Robertson to reporters in the Beehive.

Some fun things

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: There’s now just one living Reserve Bank Governor yet to criticise the one currently at Number 2 The Terrace, and he currently works for the Government, so could not publicly do so, even if he wanted to. This morning previous Governor Graeme Wheeler launched a lengthy attack on the record of central banks broadly in recent years, including that of current Reserve Bank Governor Adrian Orr.

Wheeler joins former Governors Don Brash and Grant Spencer, former Chair Arthur Grimes and former Chief Economist John McDermott in criticising Orr for being too loose with policy and not concentrating enough on keeping inflation down. The only former Governor not to criticise Orr is two-term Governor Alan Bollard, who is currently chair of the Infrastructure Commission, who effectively also reports to Orr’s effective boss, Finance Minister Grant Robertson.

Paid subscribers can see more detail and analysis of Wheeler’s criticism below the paywall and in the podcast above.

Wheeler joins Orr’s critics

The pro-markets think-tank, The New Zealand Initiative, published an 18-page paper this morning titled: ‘How Central Bank Mistakes After 2019 led to Inflation’. It was authored by former Reserve Bank Governor Graeme Wheeler, NZ Initiative Senior Research Fellow Bryce Wilkinson and included a foreword by William White, the former Deputy Governor of the Bank of Canada.

They concluded (bolding mine):

“Central bankers need to reflect deeply on the management of monetary policy over the past two years and review their models and the assumptions and judgments they made. They must ensure that they have first rate financial market expertise on their monetary policy committees and Boards.

“Trite responses about “having no regrets”, “would not do anything differently”, and “there is no alternative” are irresponsible and further damage a central bank’s credibility. Central bankers need to learn from their misjudgements because the social, economic, and political consequences of major mistakes run deep and the trust and confidence that the public have in them can be readily depleted.

“Just as President Bush acknowledged US responsibility for the global financial crisis, central banks could acknowledge what they believe they got wrong and what steps they are taking to rebuild public confidence.” Graeme Wheeler and Bryce Wilkinson in a NZ Initiative paper.

The line bolded above is clearly aimed at Orr’s view that that there was no alternative.

Wheeler was quoted personally in the news release for the paper saying:

“To begin restoring their damaged credibility, central banks must assess and acknowledge why their models and judgements were so inaccurate and inform the public on what steps they are taking to rebuild public confidence.” Graeme Wheeler

White is harsher in his foreword:

Humility rather than hubris should have conditioned monetary policy right from the start. William White

My view - I wrote in more depth with my critique of the Reserve Bank last week after the June quarter inflation figures were higher than expected. I also think there should be a proper independent review, similar to that launched last week for the Reserve Bank of Australia.

Elsewhere in the news here and overseas this morning:

Tap turned - Russia’s state-controlled Gazprom announced overnight it would restrict gas supplies to Europe through its Nordstream 1 pipeline to 20% of their normal levels, further increasing European gas prices by 10% to five times what they were a year ago. Reuters

Confidence burned - Germany’s IFO survey of business confidence found a slump in July to its lowest point since June 2020 because of fear about the gas crisis, which is estimated could carve 1-3% off German GDP over the next year. Deutsche Welle

US consumers fleeing - The CEO for BBQ-maker Weber left overnight after reporting weak results that confirmed poor results from discretionary consumer spending bellwethers Bed, Bath and Beyond, Gap and Dollar Tree in recent days. All suggest US consumers, who are responsible for buying the biggest share of output in the world’s largest economy, are retreating from spending after shocks to their real incomes from higher petrol and food prices specifically, and inflation more generally.

So what? - US investors are now betting the US Federal Reserve will tighten too much in response to inflation and have to be cutting rates again within a year. Those people here thinking longer term mortgage rates will keep rising need to know that financial markets are currently betting those longer term rates will be flat or falling because of looming recessions in the United States, Europe and (possibly) China by late this year or early next year. (see Chart of the day below)

Chart of the day

Fed to hike far and fast, then have to cut next year

Quote of the day

‘A mistake in the making’

“Unfortunately, the Fed has seized on aggressive rate hikes—a big dose of the only medicine at its disposal—even though they are largely ineffective against many of the underlying causes of this inflationary spike.” US Democratic Senator Elizabeth Warren in an Op-Ed for the WSJ

Number of the day

$10b - Biosecurity NZ’s estimate of the ‘Doomsday Scenario’ hit to export returns if Foot & Mouth were to become established in Aotearoa-NZ.

Some fun things

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe