Now is not the time for the Reserve Bank to pull the wheel against inflation too hard.

OPINION: One of the main causes of car accidents is ‘overcorrection’.

It is too easy to imagine the scenario.

A driver loses concentration, panics when he realizes he has swerved to the left and jerks the wheel.

Some would say that the Reserve Bank dozed off last year when it was, in hindsight at least, slow to respond to growing signs of inflationary pressures.

The central bank arguably should have started raising the official cash rate on August 18 when instead it opted for delay due to Delta outbreak confirmation that day.

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It could easily have justified a 50 basis point hike in November, when instead it decided to take it slow and steady by raising OCR by 25 bps, a call that Infometric economist Brad Olsen called spineless.

Now with Inflation is expected to rise to 7 or 8 percent this yearsome pundits have been yelling at the Reserve Bank to raise rates much more aggressively.

ANZ is forecasting Consecutive increases of 50 basis points on Wednesday of next week and again on May 25, which would double the OCR to 2 percent.

But there is an unusually wide range of views among economists right now about how high interest rates could go and how fast.

'Overcorrection' is a known danger for drivers and central banks.

fake images

‘Overcorrection’ is a known danger for drivers and central banks.

While New Zealand’s economy weathered the Covid pandemic better than almost anyone expected, there are now plenty of warning signs flashing at home and abroad.

A housing correction finally appears to be underway with House prices fall 3% in the last three months and many banks predict that the price decline will accelerate to double digits.

Consumer and business confidence has collapsed, with an ANZ survey putting consumer confidence at an all-time low. lowest since at least 2004 and a Westpac survey on your lowest since 2008.

On top of that, expectations are now rising that New Zealand will experience strong net outmigration in the coming months, with Kiwibank forecasting a general exodus of 20,000 people this year.

Confidence in the labor market seems to be holding up, but the question is how long?

Infometrics economist Andrew Beattie notes that job growth appears to have come off the throttle, with Stats NZ reporting that the number of people in employment fell 0.3 per cent in February.

“The job growth we saw throughout 2021 was never going to be sustainable, and employment is showing signs of peaking due to a tight labor market,” says Beattie.

Reserve Bank Governor Adrian Orr appears to be stuck between a rock and a hard place with inflation rising at the same time confidence is collapsing.

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Reserve Bank Governor Adrian Orr appears to be stuck between a rock and a hard place with inflation rising at the same time confidence is collapsing.

The international situation borders on the surreal.

Vladimir Putin is using nuclear threats to protect himself as he tries to bomb and bomb a great democracy in the heart of Europe to make it loyal.

Banks, including Goldman Sachs, are beginning to talk about the prospects of both Europe and the United States slipping into recession in the next year.

ANZ Chief Economist Sharon Zollner believes the Reserve Bank simply “has no choice but to go higher” given the strength of domestic inflation.

That’s probably true, but the question remains ‘how fast?’

Westpac points out that there are no simple answers on how central banks should deal with the scenario that is unfolding.

The Reserve Bank is supposed to keep inflation between 1 percent and 3 percent on average over “the medium term.”

But, realistically, that will never be at any cost and cannot be completely under his control, especially now that he has dual competing mandates.

It would always take a period of high inflation and/or sharp falls in house and stock prices to deflate the asset price bubble.

“The inflation targeting framework has served the economy well over the years. In fact, one of its great successes has been that most of the time we just don’t need to think about inflation in our day-to-day business,” says Westpac.

“But that framework is focused on coping with demand-driven inflationary pressures,” he notes.

“What we are experiencing now is a combination of domestic inflationary pressures and a variety of cost shocks abroad, with the risk that the latter could feed back into the former.”

Westpac argues that in the case of inflation caused, for example, by rising oil prices rather than overheated demand, “it would seem that the answer for the central bank is not to jump in either direction.”

In the context of the current monetary setup, that may mean the Reserve Bank stays on its path of frequent 25bp rate hikes and prays the economic wheels stay on track.

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