Back To Black. Services Are Lifting As Our Economy Crawls Out Of Recession

• The Kiwi economy took its first step into recovery and ended 2024 on a better note. Economic activity lifted 0.7% over the December quarter, pleasantly above our and the Reserve Bank’s forecasts. Even better, per capita output expanded for the first time in two years.
• The annual prints however reveal a sombre 2024 year. The Kiwi economy is 1.1% smaller compared to Dec 2024, while per capita output shrunk 2.2%.
• Looking out to 2026, we're optimistic. And we believe in the process. The process of cutting interest rates until asset markets respond is happening. The light at the end of the tunnel is coming out of the RBNZ. Policy settings are restrictive, but more interest rate cuts are coming. High interest rates have hurt, and the economy demands more easing.

After some painful falls in activity over the second half of last year, the Kiwi economy ended 2024 on a better note. Economic activity lifted 0.7% over the December quarter ahead of ours and the Reserve Bank’s expectations of a 0.3% increase. The print also surprised on market consensus for a 0.4% expansion.

The December quarter was certainly an improvement from the steep 2.2% cumulative contraction in activity over the middle of 2024. And for the first time in two years, activity on a per capita (per person) basis lifted, up 0.4%. On an annual basis however, things are less rosy. Compared to December 2023, the economy is still 1.1% smaller, in aggregate, while output shrunk 2.2% on a per person basis.

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Nonetheless, we’re acknowledging this as the first step in the economic recovery. Of the 16 measured industries, 11 posted a lift in activity over the quarter. And green shoots have emerged across the services and primary industries. Growth over the quarter was driven by an uptick in rental hiring and real estate, alongside an expected increase in retail trade and accommodation. According to Stats NZ, the summer tourism season saw higher spending from international visitors which flowed through to an increase activity across accommodation, hospitality and transport. An increase in activity across health care off the back of higher central government healthcare and social assistance also helped add extra oomph over the quarter.

It must be noted, however, that there were still pockets of significant weakness in today’s report card. Construction alone took away 0.2%pts of growth, with a sizeable, but not unexpected, 3.1% decline in activity. High building costs and a still sluggish housing market is not an environment conducive of a lift in construction activity. Meanwhile everything within the professional services landscape, from business services to public admin to media, continues to suffer under the weight of a deteriorating labour market. The number of total hours worked continued over 2024 fell a chunky 2.5%.

Shifting our gaze from the rear-view to what’s ahead, the outlook is positive. The RBNZ has delivered 175bps of rate cuts since August, with more on the way. With each cut, the restrictiveness of the current environment eases. In time, this easing should translate into stronger economic activity. Trust the process. For now, with the cash rate still above estimates of neutral (~3%), demand and economic activity will remain slightly constrained in the near-term. But as we move closer to a neutral rate environment, we anticipate momentum to grow. The second half of this year should see a material lift in economic activity.

That said, growing downside risks to the global outlook pose a significant headwind for the Kiwi economy’s recovery. And should the downside risks persist, then a move to a cash rate below 3% may be needed to get us back on track. Our base case scenario however is unchanged. We continue to expect another two 25bp rate cuts over the next two RBNZ policy meetings. Followed by at least one more 25bps cut to 3% in the third quarter of this year.

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