Figure 8 shows that while household debt has grown rapidly, household financial assets and the value of housing and land have grown even more rapidly.
Despite the rise in indebtedness, household balance sheets are technically in better shape than they were a year ago, or have ever been.
That said, those gains are unrealised, and could be fleeting – asset or house prices can easily fall, whereas the value of the debt
will only fall if it’s paid back or defaulted on.
This is important, as financial asset prices (and house prices) tend to be very sensitive to the level of interest rates.
If some of the wealth created by falling interest rates is wiped out as interest rates rise, that could weigh severely on confidence and spending, which may in turn limit how many OCR hikes the Reserve Bank actually ends up delivering.
What else is going on?
There are also other reasons to expect interest rates to rise by less over the coming cycle than in past cycles.
One key reason is the unknown impact on the economy of the cessation of quantitative easing (QE), which is the modern day equivalent of money printing.
As many readers will be aware, the Reserve Bank has been buying significant volumes of bonds since the COVID crisis struck, via its Large Scale Asset Purchase (LSAP) programme.
The LSAP delivered three main benefits to the economy (though certainly debate rages about the scale of its real impacts, which will never be demonstrable).
- First, it helped keep long (10-year) and ultra-long (20-year) interest rates low, particularly when the Government had to borrow a massive amount of money quickly in order to finance the huge fiscal support package in the first lockdown.
- Second, it put additional liquidity into the banking system, which helped keep short-end interest rates low and facilitated loan growth.
- Third, it likely kept the NZD lower than it otherwise would have been, which in turn added to inflation and boosted exports.
While QE did not directly impact the housing market, the build-up of additional liquidity in the banking system did mean that it indirectly supported asset prices, including house prices.
When talking about its monetary policy options, the RBNZ actually warned the Government that QE could inflate house prices,
and it now seems clear that it was one of the driving factors.
So as a result, it’s reasonable to assume that there will be some impacts on the other side too, as QE is ceased and eventually unwound.
The LSAP QE programme has now ceased, and that does mean there is less stimulus coming through those three channels, and less liquidity chasing asset prices, including housing.
We need to be clear about the phasing of this.
During the initial “purchase” phase of QE, liquidity is being created (that’s the “money printing” bit), and as this liquidity makes its way through the plumbing of the financial system, it drives down bond yields, suppresses the exchange rate, and fuels lending, which in turn helps boost house prices.
That phase spanned the period from March 2020 until last week.
The second phase (which began this week) is the “neutral” period, where no more bonds are being purchased. That takes away a tailwind, but there isn’t yet a headwind.
The final phase begins when the bonds that were purchased mature.
At this stage, if the proceeds are not reinvested (and it is likely that they won’t be, or at least not fully – after all, QE was only supposed to be temporary), we will see a reduction in liquidity.
This is known as quantitative tightening (QT) and it is akin to the “printed money” being “burnt”.
It is not clear what impact this third phase (QT) will have on the economy, but historic international experience and logic suggest that it will have a negative impact on growth, and that could temper the need (or the ability) for the OCR to go higher.
In essence, QT could see longer-term interest rates rise (which affect business and the government more), leaving less room for short-term interest rates (which affect households more) to rise.
Figure 9. Evolution and run-off of the RBNZ's LSAP portfolio (in face value terms) since inception