New Zealand's Economy Shrinks, on Brink of Recession

By Tracy Withers

June 27 (Bloomberg) -- New Zealand's economy contracted last quarter, putting the nation on the brink of its first recession in 10 years as record-high interest rates damp domestic demand and a drought slows exports.

Gross domestic product fell 0.3 percent in the three months ended March 31 from the fourth quarter. Seven of 13 economists surveyed by Bloomberg News forecast the economy will also shrink this quarter.

New Zealand's stock market fell 2 percent as the shrinking economy reduces profits at retailers such as Warehouse Group Ltd., which cut its earnings forecast by 10 percent today. Bonds rose as investors bet the contraction will prompt Reserve Bank Governor Alan Bollard to cut the benchmark interest rate from 8.25 percent.

``Current very tight monetary policy is inappropriate,'' said Shamubeel Eaqub, economist at Goldman Sachs JBWere Ltd. in Auckland. ``We expect rate cuts from September, but July cannot be ruled out as the economy sinks into recession.''

The benchmark NZX 50 stock index fell 65.05 points to 3,226.91 at the 5 p.m. market close in Wellington. Earlier the gauge dropped as much as 2.7 percent. The yield on a three-year government bond declined to a six-week low of 6.40 percent.

Bollard on June 5 forecast a 0.3 percent first-quarter contraction followed by 0.2 percent growth in the three months to June 30. He said he couldn't rule out a recession.

Rate Outlook

The contraction matched the median expectation of 13 economists surveyed by Bloomberg News. The economy grew 1.9 percent from a year earlier.

The central bank governor, who has kept the benchmark interest rate unchanged since July last year, said on June 5 it is ``likely'' he will reduce borrowing costs this year because slowing growth will stem inflation.

Ten of 13 economists surveyed by Bloomberg News say Bollard will lower the benchmark lending rate in September. Two expect a cut as early as the next review on July 24, while one predicts a reduction in October.

Adding to signs the economy won't recover quickly, consumer confidence slumped to a 17-year low in the second quarter, and house sales fell in May to a 16-year low.

Warehouse Group, the nation's largest discount retailer, today cut its full-year profit forecast by 10 percent as weaker consumer spending prompted a slowdown in sales since May.

Food, Petrol

``I don't think there's a household in the country that's not under pressure financially from the burden of higher food and petrol costs,'' Chief Executive Officer Ian Morrice said in an interview from Auckland. ``There's been a realization that times have got a lot tougher.''

Briscoe Group Ltd., an Auckland-based sporting goods and home-ware retailer, said yesterday profit in the six months ending July 27 will probably fall 80 percent from a year earlier.

The first contraction in gross domestic product in two years was led by a slump in consumer spending, home building and exports, the statistics agency said.

Household spending, which makes up 60 percent of the economy, fell 0.4 percent from the fourth quarter, the first contraction in four years. Purchases of durable items declined 3.4 percent, led mostly by cars, furniture and household appliances. Spending on alcohol, food and other so-called non- durable goods was unchanged.

Cars, Housing

New Zealanders are cutting back on purchases of cars, computers and appliances as they pay higher interest costs on their mortgages and credit cards. The lending rate on a two-year fixed home loan was 9.6 percent in April compared with 8.8 percent a year earlier.

Spending on new housing fell 5.5 percent in the first quarter, the statistics agency said.

Business investment declined 1.2 percent, led by commercial construction, while spending on plant, machinery and equipment increased. Inventories held by retailers and the distribution industry also rose.

Overseas shipments of goods and services declined 1.8 percent in the quarter as dairy product sales fell. Imports volumes rose 1.2 percent.

Fonterra Cooperative Group Ltd., the world's largest dairy exporter, said in February that farmers were producing less milk than it had forecast because of drought in much of the country. Dairy exports declined 3.8 percent in the first quarter. Sales of butter, cheese and milk powder make up about one-fifth of New Zealand's exports.

Farm Production

Farm production fell 5.6 percent in the first quarter, the biggest decline since 1998, as the drought forced many farmers to stop milking cows. Mining and forestry output also declined. Manufacturing declined 1.2 percent, led by food processing as less milk was supplied to factories. Output from the construction industry slumped 5.2 percent, led by home building.

A second report today showed exports in May rose less than economists expected after dairy sales were the lowest in nine months. The nation's annual trade deficit unexpectedly widened to NZ$4.81 billion ($3.6 billion). Economists expected it would narrow to NZ$4.5 billion.

The GDP deflator was 4.9 percent in the year ended March 31, the statistics agency said.

To contact the reporter on this story: Tracy Withers in Wellington at twithers@bloomberg.net.