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Westpac Economic Overview, August 2021 – Rapid Escalation

The Westpac Economics team’s latest Economic Overview highlights how conditions in the New Zealand economy have changed dramatically in the last few months.

“Supply-side constraints on the economy have been apparent for some time,” said Westpac’s Acting Chief Economist Michael Gordon. “What was lacking, even a few months ago, was a sense that businesses were able to pass on rising costs, or to bid up pay rates to attract local workers.”

But there is now clear evidence that strong demand is running up against these supply constraints. “New Zealand’s elimination approach to Covid-19 has allowed the economy to gather a real head of steam, more so than we’ve seen elsewhere,” said Mr Gordon.

As a result, the stimulus that the Reserve Bank provided last year to support the recovery is no longer needed. “We expect the Official Cash Rate to start rising over the coming months, reaching a peak of 2% by late 2023,” said Mr Gordon.

“Crucially, we think that higher interest rates will be effective in taking the heat out of the housing market, consumer spending, and ultimately inflation,” noted Mr Gordon. “We expect inflation to have settled closer to the 2% midpoint of the Reserve Bank’s target by late 2022.”

The more serious Delta variant of Covid-19 presents two significant challenges to the economic outlook. The first is short-term: given our currently low vaccination rate, an outbreak here would likely require a strict lockdown to contain it. “While we would hope to steer clear of that, we already have some experience of how economies fare during lockdowns – and how they come out the other side,” said Mr Gordon.

The second issue is longer-term. Mass vaccination, while essential to our Covid response, is not sufficient to deal with the Delta variant. Ongoing measures will be needed as New Zealand reopens its border, in the same way that they are needed in other countries as they reopen their domestic economies.

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