What Is A Recession & What Does It Mean For You?
The cost of living continues to skyrocket, and as of June 2023 New Zealand entered a "technical" recession. Here’s a summary of what's happening.
Posted July 2023
While it’s a grim predicament, we’re lucky to be in the early stages and still have time to prepare.
We’re here to support our members through this challenging period so here we explain (as simply as we can) how a recession occurs.
Don’t worry if you don’t completely understand – it’s a complicated system!
- What is the OCR?
- How does the OCR affect Kiwis?
- What is inflation?
- How does the OCR affect inflation?
- How is inflation measured?
- What is a recession?
- Is NZ in a recession?
The Official Cash Rate (OCR) is an interest rate that the Reserve Bank of New Zealand (RBNZ) reviews seven times a year. The OCR affects the price of borrowing and determines the interest rates banks can offer their customers.
In November 2022, the Reserve Bank lifted the OCR 75 basis points. This was the largest hike since during the Global Financial Crisis in 2008.
Increasing the OCR also increases interest rates on mortgages, credit cards, and loans. It also increases the interest earned on savings. These factors encourage people to save rather than spend or borrow.
An OCR rate hike has an economic snowball effect. Here’s what it means for you:
- Increase in interest rates on mortgages, credit cards, and loans.
- First-home buyers need a larger income to account for higher interest rates.
- The more we pay in interest, the less disposable income we have to spend on consumer goods.
- Businesses may become more competitive and reduce their prices to attract consumers.
- We earn more interest on savings accounts and term deposits.
Inflation is the term used to describe the average increase in the price of goods and services over time. In a healthy economy, the inflation rate sits between 1% and 3%.
New Zealand’s inflation rate has recently been the highest it’s been in three decades. If you’ve been feeling the pinch of rising costs, now you know why.
The significant rise in our inflation rate can not be attributed to a single cause. Many factors, domestic and international, are to blame.
New Zealand has been hit by a multitude of inflationary pressures, such as:
- Increased stimulus due to higher government spending during the pandemic. The government and RBNZ cushioned economic hardship during COVID-19 with low-interest rates and wage subsidies. When the economy reopened, this led to a huge increase in demand for goods and services.
- Supply chain issues during and after the pandemic. Global lockdowns led to a severe decline in goods produced offshore. The low supply and high demand caused prices to increase.
- The Russia-Ukraine war has affected our crude oil supply, causing fuel prices to increase.
- Recent weather events impacting the cost of roading infrastructure and impact on horticultural and export industries.
- The booming housing market had put pressure on construction costs, higher rents, and higher mortgage rates and impacts the ability for household spending.
Essentially, supply has not met demand in almost every industry for some time. This is why we’re seeing inflation across the board.
Raising the OCR helps to slow inflation. When the OCR rises, it causes interest rates to rise, making it more expensive to borrow money. If you have any type of loan, you will need to use more of your income to make repayments.
The general idea is to do what’s necessary to encourage people to reduce their spending. This allows the RBNZ to pull money out of the economy and rebalance supply and demand.
Combating inflation requires some economic sacrifice. Right now, inflation is causing significant hardships for Kiwis.
Inflation is measured using the Consumer Price Index (CPI), which tracks the changes in the price of goods and services. The CPI calculates the cost of 649 commonly purchased household items. As it is calculated four times a year, we can measure the inflation on these items each quarter.
The technical term for recession is two consecutive quarters of negative Gross Domestic Product (GDP) growth.
In a stable economy, GDP increases each quarter. When the economy suffers a downturn for two quarters in a row, we find ourselves in a recession.
By this point, you’re probably wondering how impending recessions can be forecast. Recessions are not always predictable. Sometimes they’re caused by a single event that halts the economy, such as an oil crisis, a stock market crash, or a World War.
But we’ve been hit by a snowball of economic impacts. By this point, we have enough information to say we are in a "technical" recession.
We’ve watched the economy struggle through a pandemic, supply chain issues, a housing crisis, stubbornly high inflation, a large-scale war, and soaring fuel costs.
The OCR rate hikes shows a desperate need to reduce consumer spending. We need a recession to stabilise our economic baseline.