House price declines could hit the NZ economy harder than most, according to the latest International Monetary Fund (IMF) global financial stability report.
The IMF estimates NZ consumption would fall 0.25 per cent for every 1 per cent drop in real house price growth, putting the country in the highest at-risk group headed by Malaysia (due for a 0.35 per cent shopping slump based on the same scale).
By contrast, Australia would likely see a consumption slide of just 0.1 per cent for each 1 per cent decline in house price growth.
NZ national property values fell 13.3 per cent to the end of February, the QV house price index shows.
But the IMF has bigger issues to hand than the NZ real estate market in its 2023 report subtitled ‘Safeguarding Financial Stability amid High Inflation and Geopolitical Risks’.
Stubborn inflation, rising interest rates and emerging cracks in the global financial system have put the IMF on high alert.
Tobias Adrian, IMF financial counsellor, says the 2023 global financial stability report “shows that risks to bank and nonbank financial intermediaries have increased as interest rates have been rapidly raised to contain inflation”.
“Historically, such forceful rate increases by central banks are often followed by stresses that expose fault lines in the financial system,” Adrian says.
While the IMF is still tipping growth for the global economy in 2023 of 2 per cent or so, the odds of a worse-case scenario have increased in the wake of the US and European bank collapses this year.
“Our growth-at-risk metric, a measure of risks to global economic growth from financial instability, indicates about a 1-in-20 chance that world output could contract by 1.3 percent over the next year,” Adrian says. “There’s an equal probability that gross domestic product could shrink by 2.8 percent in a severe tightening of financial conditions in which corporate and sovereign spreads widen, stock prices fall, and currencies weaken in most emerging economies.”
Investment markets are also likely to face ongoing volatility as background macro-economic and monetary conditions readjust, the IMF report says.
“The prospect of inflation and interest rates being higher for longer after more than a decade of subdued inflation, low rates, and ample liquidity has profound implications for asset prices, asset allocations, and the resolution of vulnerabilities that have recently emerged,” the IMF says. “Poor liquidity in bond markets could sharply amplify asset price moves and shocks.”
Among other sectors, the report highlights private debt, property funds (especially those exposed the office market) and leveraged bets as potential fracture points in the investment landscape.
“For several years, investors have used investment strategies predicated on low volatility—reaching for yield and using of leverage—and some of them appear to be unprepared for a world of higher realized volatility, rising defaults, and falling asset prices,” the IMF says. “The risk-management failures that have been unmasked by the recent episodes are a source of concern.”
Retail investors also cop some stick from the global body for increased dabbling in ‘zero-day to expiry’ options – or leveraged, fast-paced derivatives used to capture fleeting opportunities in share markets.
“According to research, retail investors trading in the options market often end with losses ranging between 5 and 9 percent, reflective of substantial transaction costs and slower ability to respond to news events than market makers,” the IMF report says.
“The popularity of these sophisticated instruments poses various policy issues. The active involvement of retail investors in this area raises questions about the disclosures and regulation of retail investor participation in complex financial instruments.”
Similarly, the IMF calls out crypto-assets for much tighter “comprehensive” regulation following some high-profile collapses of late with potential contagion effects to the broader financial system.
“The cross-sector and cross-border nature of crypto limits the effectiveness of uncoordinated national approaches,” the report says. “Strong international cooperation, supported by robust, comprehensible, globally consistent crypto regulation, is essential to provide guidance, ensure consistent implementation, and contain spillover risks.”
As well as inflation, high rates, banking system fragility and shaky investment markets, the IMF also cites geopolitical tension and the low-carbon transition as threats to financial stability – otherwise the world is in great shape.