Yields on fixed interest securities, which have been falling sharply all year, took another surge lower last week. The 5-year swap rate, a good proxy for market rates in New Zealand reached 1.36%, down from 2.20% at Christmas 2018 and 2.65% a year ago. That’s a record low level for NZ bond yields. The primary catalyst last week was a signal that the US Federal Reserve is close to cutting rates. They are joining the central banks in New Zealand, Australia and parts of Europe in shifting to a decidedly dovish stance over recent weeks.

• Most activity indicators point to deteriorating economic momentum, but with monetary conditions easing, a recession seems unlikely.
•  Market prices are anticipating quite aggressive rates cuts and some commentators are extrapolating the trend, looking for rates to head towards zero. We have a more benign view for New Zealand.
•  Lower term deposit rates and lower mortgage rates could be around for some time.

As rates have dropped, some commentators have even suggested that rates in New Zealand and the US could join Europe and Japan, where long-term government bond yields are trading below zero percent. This is a striking call, given the generally decent shape of the New Zealand and US economies. In NZ with GDP growth at 2.5%, the unemployment rate at a low level of 4.2%, and our terms of trade and fiscal positions both in a good space, a casual observer could quite rightly be scratching their head. Why on earth would interest rates be falling so sharply?

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