Daily Briefing, Wednesday March 05, 2008

Intro
Hello. I’m Bernard Hickey with the daily briefing from interest.co.nz…
Today, we’ll look ahead to tomorrow’s decision by Reserve Bank governor Alan Bollard on our official interest rates and what it might mean for people taking our mortgages and investing in term deposits,

And we’ll have a good close look at the sewerage system in Alabama’s largest city. Believe me it’s worth the wait because it may eventually effect interest rates here.
Story 1,
But firstly, we look ahead to tomorrow morning’s decision by the Reserve Bank governor Alan Bollard on our official cash rate.
The headline is that all economists expect him to keep the cash rate on hold at 8.25%. That bit’s not in debate.
The key question will be what he says might be the bank’s next move and his general commentary on inflation, the economy and the upcoming election.
Things change every day in the nuances of what the RBNZ’s outlook might be and today is no different.
Last night the Bank of Canada cut its official interest rate by a bigger than expected half a percentage point to 3.5%. It also warned that the fallout from the US slowdown on the global economy will be worse than many expect. Canada should know. It depends on the US for a good chunk of export earnings.
Meanwhile, the Reserve Bank of Australia actually lifted interest rates yesterday. It is worried about inflation and wants to see the economy slow down. Australian economic activity is getting a big boost from the Chinese-driven demand for iron ore, coking coal and other metals. Just yesterday, Australia forecast its minerals and energy exports would rise 33% this year, well above the 7% seen last year.

This matters because Australia is the biggest buyer of our exports and Bollard has said he is watching Asia and Australia closely.
However, it was worth looking at the commentary with the Australian move yesterday, which seemed a lot more relaxed about inflation and cautious about the outlook than previous statements. This encouraged currency traders to drag the Aussie dollar lower overnight in anticipation that the Reserve Bank of Australia may not hike rates again any time soon.
The end result of this for New Zealand is an interesting balance.
We have an inflation problem, but we have a slowing housing market and subdued consumer spending.
We are also seeing most of the global economy starting to slow down because of the US economic slowdown and the sub-prime crisis. But Asia and Australia are still rocketing along.
My pick is that Bollard will keep rates on hold and issue a balanced statement, meaning he doesn’t have a rate hike or rate cut bias. That will actually be a more relaxed view than his previous comments, which were biased towards a rate hike.
Bollard announces his decision and releases his views at 9am.
Story 2
Now for a story we wouldn’t normally touch. This is all about a sewerage system in the Alabama city of Birmingham. Bear with us. This story helps explain why mortgage rates are increasing slightly in Blenheim and the rest of New Zealand.
It all starts with the Jefferson County treasurer deciding to refinance the sewerage system for Birmingham by sell a bunch of bonds that have a floating rate.
Unlike a lot of fixed interest bonds, these have their rate reset every week at an auction run by banks. In recent weeks these auctions for local government bonds with adjustable rates have virtually shut down.
That’s because many of these bonds were insured by bond insurers have gotten into all sort of trouble insuring other much more complicated bonds and derivatives.
One of the insurers FGIC was the insurer behind the Alabama bonds. Its rating has been downgraded and the interest rate on these floating sewerage bonds has jumped sharply. Jefferson County’s interest bill has risen over 2 million in a matter of weeks. It also bought a bunch of fancy interest rate swaps to hedge its exposure and now will have to buy them back for over billion.
This squeeze has gotten so bad that Jefferson County has actually warned investors it may default on the bonds.
This is not an unusual example of the extreme stress going on in US credit markets. Many US universities have stopped making student loans because the markets have shut down.
So what does this mean for us. Essentially it means a lower appetite for risk globally and because New Zealand borrows more than billion a year from foreigners that means we have to pay a little bit extra to keep them happy.
And that is being passed on to mortgage holders right now. This morning Kiwibank increased its 2 year fixed rate mortgage by 20 basis points to 9.6%.
From the sewers of Alabama to the suburbs of Blenheim. Global credit markets connect us all.
I’m Bernard Hickey from interest.co.nz with the Daily Briefing. Catch you on Thursday.