Much ado about little

Financial media in New Zealand has been abuzz with stories of falling equity prices in the US and falling house prices in parts of Australia. The implication is that New Zealand will be affected. We find that idea far too simplistic.

There will be very little direct impact on the New Zealand economy from either falling US share prices or falling Australian house prices. New Zealanders are not big owners of Australian property, international equities, or even New Zealand equities, so there won't be much in the way of a wealth effect. We've seen claims that New Zealand house prices tend to follow Australia's, but these are simply untrue – the two countries often experience distinct housing cycles. When we prepare our forecast of New Zealand GDP growth for our next quarterly Economic Overview, neither US equity prices nor Australian house prices will be major factors in our thinking.

That said, what is happening in the US and Australia does serve as a warning of sorts for New Zealand. It is probable that in the future New Zealand will suffer parallel situations for parallel reasons.

In the United States, the strong economy is generating fears of inflation, and consequent fears of higher interest rates. When interest rates rise, investors tend to find bonds more attractive. Consequently, they demand a higher rate of return before investing in equities – which can only be achieved by paying a lower price in the first place. Share prices in the US have been weaker this year mainly due to rising interest rates.

The parallel for New Zealand would be house and farm prices falling when local interest rates eventually rise.

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