Confidence in question

The magnitude of the economic recovery over Q4 will be the focus for the week. We are expecting a 0.5% increase in GDP, close the RBNZ's pick of 0.6% but on the softer side of the median market expectation, centred on 0.8%.

The easing in March consumer confidence was a timely reminder of the caution that remains despite the improved outlook. Spending growth has been muted over recent months, and a solid turn around in employment growth will be key to reassuring households.

The current account is the other key release for the week, and the deficit has narrowed substantially over the past year, in the most part due to the recession. However, as the NZ economy records its third quarter of positive growth, the drivers of the smaller current account deficit are starting to turn.

The magnitude of the economic recovery over Q4 will be the focus for the week. We are expecting a 0.5% increase in GDP (released Thursday 25th at 9am), close the RBNZ's pick of 0.6% but on the softer side of the median market expectation, centred on 0.8%. The overall picture for Q4 will be the economic recovery becoming more widespread throughout the different sectors of the economy. Retail and manufacturing will be making a strong contribution to growth, while the recovery in construction and services will remain slightly more muted. Although an important release, the data relates to the past, and what's of more interest is if growth is becoming self-sustaining through 2010. Certainly, the foundations are locking into place, with improved business and consumer confidence over the past year. In addition, the lower NZD/AUD is likely to provide a lending hand to manufacturing and tourism.

However, last week's easing in consumer confidence was a timely reminder of the caution that remains despite the improved outlook. The weaker result was most likely influenced by higher petrol prices and current uncertainties ahead of the May Budget tax announcement. Nonetheless, spending growth has been muted over recent months. A solid turn around in employment growth will be key to reassuring households.

The current caution in households and business alike is weighing down economic activity, allowing the RBNZ to wait until the middle of 2010 before starting to unwind monetary policy stimulus. However, the RBNZ needs to remain wary of inflation risks. Capacity and inflation pressures have not unwound that far, despite the recession. The NZ economy will not get far through the recovery until these inflation pressures start to re-emerge, as is currently happening in Australia. With the risks to the inflation outlook skewed firmly to the upside, the RBNZ needs to weigh these risks carefully.

The current account is the other key release for the week, and the deficit has narrowed substantially over the past year, in the most part due to the recession. A decline in corporate profitability reduced the income flow out of New Zealand, which narrowed the investment income deficit. Meanwhile, a slump in import demand drove much of the improvement in the goods balance. As the NZ economy records its third quarter of positive growth, the drivers of the smaller current account deficit are starting to turn. Underlying corporate profitability is likely to improve over the next year, increasing dividends to the foreign owners. Import demand is set to recover with domestic demand. The February merchandise trade balance due Friday, will provide a more timely read on this process. The trade balance is currently recording strong (seasonal) surpluses. However, by winter the trade balance is likely to return to deficit as import growth recovers.