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Budget 2017 Home Page Budget Economic and Fiscal Update 2017

The Economic Outlook (continued)

...while also adding to pent-up demand in the housing market

Rapid population growth and low interest rates increase demand for housing. In the near term, indicators including building consents suggest that real residential investment and house price growth will remain around current levels owing to a range of factors that are judged to be largely temporary. Factors explaining the recent slow-down in residential investment include the impact of tighter loan-to-value ratios, uncertainty around the Auckland Unitary Plan, capacity constraints in the construction sector (particularly for skilled labour) and tighter credit conditions (particularly for developers).

Figure 1.6 - Real residential investment
Figure 1.6 - Real residential investment.
Sources: Statistics New Zealand, the Treasury

Further out, most of the temporary headwinds are expected to subside and pent-up demand for housing returns to the fore (given rapid population growth and relatively low interest rates), resulting in a further pick up in residential investment. House price growth is anticipated to pick up once more in 2018 then ease from 2019 onwards as supply increases to meet demand.

The recent slow-down in residential investment growth explains much of the lower momentum in near-term growth in the forecasts. There is considerable uncertainty associated with the judgement that this slow-down will be temporary. See the Recent developments in residential development boxon page 13 for further discussion.

Housing market developments have been reflected in growing household debt, which reached a new high of 168% of household disposable income at the end of 2016. If income growth were to slow significantly or if interest rates were to rise sharply, debt servicing could become difficult for some households. This has the potential to constrain GDP growth as households adjust by reducing consumption and residential investment. See Scenario Two in the Risks and Scenarios chapter for further discussion.

Recent developments in residential investment

Residential investment fell to historically low levels after the GFC but has increased since late 2011, driven by population growth, low interest rates and the Canterbury rebuild. Residential investment slowed more rapidly than anticipated in the second half of 2016 and will likely fall slightly during 2017, largely as a result of temporary factors. However, demand created by population growth remains and is expected to drive a resumption in growth in 2018.

Strong growth over recent years fuelled by Canterbury rebuild…

Consents are the main indicator of future construction activity. Since 2011, the earthquake rebuild has seen consents in Canterbury increase more rapidly than in the rest of New Zealand, to be nearly double their previous peak in 2014, at around 700 dwellings a month. By 2015, consents had started trending down and are expected to decrease to 250-300 per month, as rebuild activity subsides and local population growth becomes the primary driver.

…and strong population growth…

Annual population growth has increased significantly since 2012, from 0.6% in 2012 to 2.1% in 2016. This growth has been underpinned by net migration and has resulted in strong demand for housing.

Figure 1.7 - Building consents (seasonally adjusted, 3-month moving average)
Figure 1.7 - Building consents (seasonally adjusted, 3-month moving average).
Source: Statistics New Zealand, the Treasury

LVR restrictions have slowed sales

Transfer costs from house sales, a component of residential investment, have slowed. In the December 2016 quarter an 8.4% fall in house sales meant that, overall, residential investment was fairly flat, growing only 0.1%. The introduction in October 2016 of loan-to-value ratio (LVR) restrictions, which increased the deposit required for investors to purchase housing, is one factor behind this slowdown. House sales are not expected to fall further.

...alongside uncertainty with the Auckland Unitary Plan (AUP)...

Consents began declining in Auckland in September 2016. The AUP is currently ‘operative in part', meaning parts are subject to change if appeals against it are successful. In the short term this has added uncertainty for developers, who may have postponed plans until there is more clarity. In February a key court decision went in favour of the Auckland Council, suggesting appeals could have little effect. Once fully operative, the AUP is expected to increase development activity in Auckland as it increases flexibility for developers.

…but fundamental driver of population growth likely to reassert itself

We expect many of the factors currently holding growth back to diminish, while some, such as increasing certainty around the AUP promote supply to meet demand from existing and future population growth. March 2017 quarter consents showed positive signs of a rebound. While below their 2016 peaks, consents in the March 2017 quarter grew 6.7% in Auckland and 5.2% across New Zealand as a whole.

Business investment grows…

Business investment accelerates over the forecast period, supported by low interest rates, rapid population growth and the Kaikōura earthquake rebuild. Population growth encourages businesses to invest in order to expand their operations and to match growth in employment with growth in capital. Some elements of business investment are closely related to residential investment (eg, infrastructure) and so the delayed residential investment compared to the Half Year Update contributes to the weakness in business investment early in the forecast period and the strength thereafter.

Government consumption growth is forecast to peak in the near term, and ease thereafter. The government consumption forecast has been updated to include recent developments such as the new operating allowances of $1.8 billion in Budget 2017 and $1.7 billion in subsequent budgets and the latest estimates for the Care and Support Workers Pay Equity Settlement Agreement.

Figure 1.8 - Real business investment
Figure 1.8 - Real business investment.
Sources: Statistics New Zealand, the Treasury
Figure 1.9 - Real government consumption
Figure 1.9 - Real government consumption.
Sources: Statistics New Zealand, the Treasury

…increasing productivity growth in the medium term

Productivity growth is expected to remain low in the near term, with rapid growth in the working-age population. Labour productivity growth is forecast to rise in the medium term as business investment picks up and net migration inflows begin to subside, and averages 1.4% over the final four years of the forecast period.

Growth in potential output is expected to slow over the medium term, as labour force growth declines owing to easing net migration inflows. In annual average terms, potential output growth slows from 3.3% in the near term to 2.6% by 2021, but is higher than in the Half Year Update given strongerlabour force growth.

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