Historically, if interest rates fell and house prices rose, then inflation would be rampant. The New Zealand economy has been steadily growing since the Global Financial Crisis (GFC), interest rates are at historical lows, house prices are through the roof, and yet inflation is almost dormant. A recent Reserve Bank speech indicates that New Zealanders are partly the cause and our new found personal financial responsibility is contributing to keeping inflation at bay and avoiding the historical boom/bust cycles which were common in the past.
The Deputy Governor of the Reserve Bank, in a recent speech in Canberra, outlined new research on the changing dynamics of New Zealand household behaviour and what it means for inflation.
Pre the GFC, if interest rates were low and New Zealanders could see that their house value had increased, then the tendency was to use house equity to secure more borrowings which in turn were spent on consumer purchases such as cars, appliances etc. However, the GFC was a real wake up call for many households. People now realise that there are not automatic pay increases each year, and companies cannot just increase their prices to accommodate pay increases. Additionally, there is now an expectation that prices of many goods and services will go down year after year rather than rise like in the past. This is driving new household behaviors.
The Reserve Bank reports that New Zealand household savings rates have increased from a low of -6.8% in 2003 to a high of 2.4% in 2012 and have been relatively stable since then. The key contributor to this is that as house prices have increased and mortgage interest rates have fallen, households have on average chosen to reduce debt rather than spend the house price equity increase. Loan to value restrictions may have contributed to this reluctance to further borrow money, but so too has the belief that there is no need to buy now in case things rise in price.
“The reduced tendency to take on debt secured against the rise in the value of housing wealth has meant that we have not witnessed a rise in household indebtedness to quite the same extent as prior to the GFC” (Reserve Bank November 2016)
New Zealand household debt is still scarily high, having risen from 60% of household disposable income in 1990 to 100% in 2000 and 165% in June 2016. These high debt levels are concerning to the Reserve Bank especially with house prices currently being so high.
Reserve Bank research indicates households are conscious of the need to save and reduce debt levels and this in turn reduces consumer spending and keeps inflation low. Long term, this is good for the economy provided a reasonable balance between spending, saving and debt reduction is maintained. Obviously nothing is guaranteed but the Reserve Bank is of the opinion that inflation will average around 1.5% pa. For retirees, this is excellent news as inflation erodes the purchasing power of savings.
Give the team at Milestone a call if you are unsure how to financially benefit in a low inflation environment such as we have today.