Welcome To Hyper Inflation

In several previous articles I have warned readers of the risks of hyper inflation (otherwise known as the “speculators friend”) and here we have a respected author saying the same thing.

Inflation can be a blessing for investors as it increases assets prices and thereby reduces debt proportionally.

But it has to be handled carefully, as greed and fear can take control and make people spend wildly in an attempt to keep up with inflation.

Sure, interest rates might rocket, but who cares if you pay 20% interest but make 100% capital gain? You think I’m joking? Nope.

That’s exactly what happened in the 1980s — and human nature hasn’t changed one little bit since then.

Roger J Kerr challenges RBNZ view on inflation – thinks it is being driven by different factors (www.interest.co.nz)

June 27, 2011 – 12:57pm, Roger J Kerr

There has been much analysis and debate in New Zealand over the last six months as to why this economic recovery out of recession back to positive GDP growth is fundamentally different to all other economic recoveries.

The argument goes that this it is entirely different this time because the pick-up in the economy is not consumer spending-led and therefore the inflation risks stemming from stronger growth are less concerning.

Households still have too much debt on board to go crazy buying new fizz-boats, TV’s and holidays homes.

Therefore there is a valid argument that RBNZ can delay increasing the OCR as the inflation risks are different.

I don’t agree with this thinking at all.

The RBNZ gurus like this line of reasoning as they have always seen our inflation risks coming from the demand side of the economy with excessive consumer demand fuelled by housing prices/credit expansion. For this reason the RBNZ are not likely to lift the OCR and return monetary policy settings from ‘super loose’ to ‘neutral’ until they see retail sales, house prices and credit growth increasing significantly.

They don’t see the inflation risks occurring until the demand side increases.

The reality of the NZ economy is that most of the inflation comes from the supply side of the equation, be it commodity prices, oil, rents, electricity or building costs.

Price increases from these sources can still push annual inflation above the RBNZ’s limit of 3.0%.

However, the big question is whether pushing interest rates upwards to slow consumer demand will have any impact on these supply-side sourced inflationary pressures.

Probably not.

Herein lays the dilemma of only relying on monetary policy (interest rate changes) as the sole controller of inflation in New Zealand.

The core funding ratio regulation on bank borrowing does provide another lever for the RBNZ to pull, however again this is all about restricting credit growth to the feared residential property sector.

What is the RBNZ doing about the supply-side inflation risks that will potentially cause them to breach their 3.0% inflation ceiling next year?

The answer is sweet bugger all!

The RBNZ are mandated by the Government of the day to control inflation between 1% and 3%, however they seem to think it is someone else’s responsibility to push for proper competition policies and control public sector price increases. Most of our inflation continues to come from these two sources, but you never read about this reality in the RBNZ’s Monetary Policy Statements. Their view of the sources of inflation and how you address those pressures remains far too narrow in my opinion.

Until we have a wider inflation control mandate for the RBNZ to highlight the true sources and prompt change we will have sub-optimal management of inflation in this economy.

If I was the Governor of the RBNZ, I would currently be worried about the following sources of inflationary pressures outside the obvious food and petrol price increases:-

- Inflationary expectations increasing from the high headline inflations rates of late.
- For the last 10 years China has exported deflation to New Zealand with price decreases on imported consumer goods. Massive wage increases in China has now ended this deflationary phenomena.
- Wage demands and settlements will be sharply higher over the coming 12 months as workers seek a catch-up on the zero increases of recent years.
- Building costs have to increase as local construction industry resources cannot meet the Christchurch rebuild demand.
- Rents are also likely to continue increasing as wages lift and residential property construction remains well below historical averages - that is, housing shortages.
- Current low capacity utilisation in the economy will not last much longer as production is ramped-up by agriculture exporters and manufacturing exporters selling into Australia.

Add on constantly rising electricity prices and local body rates and the end-conclusion is elevated inflation risks.

I re-read the 9 June RBNZ Monetary Policy Statement and did not get the impression that these aforementioned inflations risks are well recognised and understood.

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