A Secure Future

… with inflationary pressures affecting the near-term economic outlook

Consumer Price Index (CPI) inflation started increasing in 2021, with a 6.9 percent increase in the March 2022 quarter compared to the same quarter in 2021. The Treasury Budget Update forecasts inflation to moderate to 5 percent by the June 2023 quarter and near 2 percent at the end of the forecast period as global inflationary shocks ease and monetary policy normalises (Figure 6).

It is important to recognise that COVID-19 has had uneven impacts across sectors. Internationally, the effects of the pandemic have tended to show household demand for services bounce back relatively slowly, while demand has shifted strongly toward goods (as illustrated in US spending patterns in Figure 5). This has increased the strain placed on global supply chains, with volumes of goods moving through international ports reaching record levels. Domestically, sectors that are more reliant on international visitors or students have experienced a more prolonged impact of COVID-19.

Figure 5 - Real consumption expenditure for the United States

Source: OECD

The Russian invasion of Ukraine has added considerable uncertainty to the near-term outlook. For New Zealand, the major economic impacts of the war are being transmitted through commodity prices. Higher petrol prices are adding to inflation at a time when the cost of living has already been pushed up by global supply chain issues and high demand due to New Zealand's economic recovery from COVID-19. As seen in Figure 6, inflation has been heavily concentrated in a few specific areas that have been particularly affected by disruptions associated with the ongoing impacts of the pandemic.

In the March 2022 quarter, transport accounted for 20 percent of the annual increase in the CPI, largely driven by fuel prices (petrol prices accounted for 18 percent of the annual increase in the CPI). As Stats NZ has recently noted, increases in the price of petrol can contribute to inflation in other areas that are dependent on petrol as an input.[8] Higher petrol prices have been a key driver of rising food prices. The rising food prices accounted for 18 percent of the annual increase in the CPI for the March quarter 2022.

Figure 6 - Annual CPI inflation and contribution to annual CPI inflation

Sources: Stats NZ, The Treasury

Housing and housing utilities accounted for close to 35 per cent of annual CPI inflation in the March 2022 quarter, with the majority of this increase being the price of new housing. The cost of new housing is classified as a non-tradable item because it is not subject to international competition (as we don't import, or export finished houses). However, such goods are also not immune to events within the global economy. Building materials are internationally traded, for example, 90 percent of construction products used in New Zealand are imported or otherwise manufactured locally from some imported components.[9] Disruptions to the supply of materials have been a key constraint within the sector. The Cordell Construction Cost Index for the first quarter of 2022 increased at record rates in terms of quarterly and annual movements, with the report citing disruptions in supply chains for materials, and pressure on timber and structural products.[10]

Many of the drivers of higher inflation are global in nature and are being felt to similar degrees in countries around the world. While these underlying causes are beyond our direct influence, we are able to control how we respond to support the most vulnerable households.

The Government moved quickly in March 2022 to address the rising cost of living by reducing fuel excise duty by 25 cents per litre, making equivalent cuts to road user charges and making public transport half price for three months. This runs through to near the start of the 2023 financial year, when Budget 2022 investments kick in. Budget 2022 includes an extension of the cut in fuel excise duty and road user charges for two further months, and a continuation of our policy supporting public transport fare reductions until August 2022.

Budget 2022 continues to help low- and middle- income New Zealand families with the cost of living increases being experienced here and around the world. The Government is providing a cost of living payment of $350 in three monthly instalments starting 1 August, to provide short-term support to low- and middle- income earners. This is around $27 per week, and represents half the couple rate of the Winter Energy Payment. The payment will be available to individuals who earned less than $70,000 per annum in the past tax year, and not eligible to receive the Winter Energy Payment - approximately 2.1 million New Zealanders.

The reopening of the border will gradually boost migrant and tourist flows, although we are not forecast to experience the sort of net migration influx that was a primary driver of economic growth in the decade pre-pandemic. The Government's Immigration Rebalance will be an important component of the overall balance we will seek to strike with our Economic Plan at Budget 2022.  

The tight labour market, global supply chain disruptions, and resilient domestic demand means that inflation is more persistent, with 90-day interest rates forecast to reach 3.6 percent in 2023 from an average of around 1.8 percent over April 2022, feeding through to higher mortgage rates. This is forecast by the Treasury to reduce house prices and dampen demand. The Treasury's economic model shows unemployment rising towards 4.8 percent in 2025 - similar to the 4.7 percent we inherited in 2017. The model doesn't allow for the effect of future Budget policies and as a Labour Government it is our intention that we continue to prioritise full employment in the economy.