Blog Post – Trade and Interest Rates – James Bolland
The increase in value of trade with China to $30 billion by 2020 will significantly impact economic growth within New Zealand (NZ Herald, March 21). This increase in value is expected to come from a increase in the exportation of dairy products to China and massive importation of cheaper Chinese goods (CMS, 2014).
This increase in demand for NZ goods, will increase the demand for New Zealand dollars (NZD) driving the price up, causing an appreciation of the NZD (CMS, 2014). However this will be counteracted by the huge demand for Chinese Yuan driving a net depreciation of the NZD.
The depreciated NZD will result in 1NZD buying relatively less Chinese goods, making importing materials more expensive (CMS, 2014). This increase in costs will make goods more expensive to produce and firms will either have to pass this cost on to the consumer or take a hit in their profits.
The increase in trade with China will increase the GDP of NZ, causing inflationary pressures. The RBNZ may react to this by further increasing the official cash rate (OCR) (CMS, 2014)(RBNZ, 2014). The OCR has increased to 3% and is expected to increase further over the next few years (RBNZ, 2014). The OCR is used by the reserve bank of New Zealand (RBNZ) as a means of combating inflationary pressures to ensure inflation remains between 1-3% per year.
The OCR is the rate which New Zealand banks borrow money overnight from the RBNZ and as a result influence bank interest rates for both borrowing and saving. An increase in the OCR as seen both interest rates and mortgage rates increase since the start of 2014 and if the OCR continues to increase, the interest rates of investment loans taken out by firms will rise, further increasing expenditure (RBNZ, 2014).
Firms which decide to pass the cost on to consumers may lose contracts to firms which do not, however these firm will make a reduced profit (NZ Herald, November 21). Larger firms may be able to survive a period of making little or no profit, however small firms which are in serious debt will not, so methods of reduce costs will need to be employed. Builders and Concrete is a firm in this situation and will have to act to keep costs down to ensure they do not risk losing contracts. Since the OCR and therefore interest rates are expected to continue to increase, fixed the interest rate to the current low rate will ensure interest payments do not increase with the floating rate.
CMS FOREX. (CMS, 2014). Exchange Rates & Supply and Demand. Retrieved from CMS FOREX: http://www.cmsfx.com/en/forex-education/online-forex-course/chapter-2-fundamental-factors/exchange-rates-supply-and-demand/actors-that-affect-supply-demand/
Reserve Bank (RBNZ, 2014) . Official Cash Rate (OCR) decisions and current rate. Retrieved from RBNZ: http://www.rbnz.govt.nz/monetary_policy/ocr/
NZ Herald. (2013, November 6). Construction sector shake up threat from Govt. Retrieved from NZ Herald: http://www.nzherald.co.nz/business/news/article.cfm?c_id=3&objectid=11152327
NZ Herald. (2013, November 21). ‘Huge wave’ of building work on way. Retrieved from NZ Herald: http://www.nzherald.co.nz/nz/news/article.cfm?c_id=1&objectid=11160395
NZ Herald. (2014, March 21). China trade target has risk: expert. Retrieved from NZ Herald:http://www.nzherald.co.nz/business/news/article.cfm?c_id=3&objectid=11223316