Inflation Goes Astray in New Zealand in Setback for New Governor

(Bloomberg) -- New Zealand’s new central bank governor has inherited an early headache as inflation looks set to slump toward the bottom of his target.

Consumer prices are tipped to rise just 1.1 percent in the first quarter from a year earlier in Thursday’s scheduled release, economists say -- well short of the midpoint of Adrian Orr’s 1-3 percent goal. It compares with a 1.6 percent reading for the previous three months and would be the slowest annual pace since the third quarter of 2016.

Orr, who took the helm at the Reserve Bank on March 27, can take some solace. Expectations are the dip will be temporary, while the RBNZ’s flexible approach to inflation targeting means he needn’t alter policy in his first interest-rate decision on May 10.

Still, the pick-up in inflation later in 2018 expected by most economists and the central bank may not be as dramatic as assumed earlier this year. A strong currency is keeping a lid on imported prices and local firms are finding it hard to make higher costs stick amid sluggish economic growth. Benign inflation adds to signs that Orr will keep the benchmark rate at a record-low 1.75 percent well into 2019.

“There is little to suggest that inflation is about to break out any time soon,” Miles Workman, economist at ANZ Bank New Zealand in Wellington, said in a note. “We suspect the RBNZ will continue to bide its time until there’s a little more certainty that inflation is set to rise. But with a new governor, there is naturally more uncertainty than usual.”

Food and tradable goods are two key factors expected to weigh on New Zealand’s consumer price index in the first quarter:

Inflation Goes Astray in New Zealand in Setback for New Governor
  • A surge in food prices a year ago will be excluded from calculations. The 2017 spike -- caused by a blast of unseasonable wet weather that ruined fruit and vegetable crops -- helped inflation reach 2 percent for the first time in more than five years. 
Inflation Goes Astray in New Zealand in Setback for New Governor
  • Prices of tradable goods, which are imports or local products that are sensitive to exchange rates, have been suppressed by years of a strong New Zealand dollar. While the currency’s return to fairer value has meant the tradables gauge added to CPI recently, the RBNZ projects the measure slumped back to zero in the first quarter.

Read more: Orr stresses price stability in his first interview

One reason the RBNZ is flexible with inflation targeting is because the headline CPI gauge gets buffeted by a range of factors, many of which don’t reflect structural price pressures.

They include the vagaries of New Zealand’s weather and its impact on food prices, and the effect of government policies which can be recurring -- as in tobacco hikes -- or a one-off hit like the introduction of a free tertiary education policy in the first quarter.

That’s why the RBNZ focuses on measures of core inflation and wants to see them nearer 2 percent. One of its preferred core measures -- sectoral factor model inflation -- has been stuck at 1.4 percent for the past three quarters.

Inflation Goes Astray in New Zealand in Setback for New Governor

The central bank gets spooked by persistent low CPI results because they gnaw away at what people expect for future inflation. When expectations fell in 2015-16 and eventually hit a 22-year low, the RBNZ cut rates aggressively. The two-year measure is currently 2.1 percent, which the central bank describes as well-anchored.

Orr will want it to stay that way.

Inflation Goes Astray in New Zealand in Setback for New Governor

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