Weekly Economic Commentary 10 June 2024
Analysis and forecasts of the economy and markets, along with previews of data for the week ahead.
Read full report here (PDF 722KB)
Spotlighting agriculture
Global Dairy Trade auction results.
One of the key events last week was the Global Dairy Trade auction. The overall dairy price index rose 1.7% on the previous auction, which was in line with expectations. Prices have now risen for five consecutive auctions, and are 16% up on this time last year, and 12% higher than at the beginning of this year.
There were gains for all the major products. Whole milk powder (WMP) prices rose 1.7%, underpinned by lower offer volumes and stronger demand from Southeast Asia/Oceania. Buyers from North Asia, which includes China, as well as those from the Middle East were also evident, purchasing similar volumes as they did at the previous auction.
Skim milk powder (SMP) prices were also up, rising 3% on stronger demand out of Europe, which is past its seasonal production peak, as well as from North Asia. Meanwhile, Anhydrous milkfat (AMF) prices lifted 0.9%, mostly on buying out of the Middle East, settling at another record high, while butter prices, underpinned by stronger demand out of China, edged ever closer to previous record highs. AMF prices are now 58% higher than a year ago, while butter is up 28%.
There were, however, some notable exceptions. Lightly traded buttermilk powder (BMP) jumped 10.4%, but much of that is likely to be due to BMP not being available at the previous action. Lactose was only negative result from the auction, with prices falling 1.9%.
Farmgate milk price forecasts.
All of this is potentially good news for news for farmers, who will be hoping that the recent lift in dairy prices translates into higher farmgate milk prices over the 2024/25 season.
Our mid-point forecast for the milk payout is currently $8.40 per kg ms. That has remained unchanged since March when dairy prices were lower than they are today. That’s also bit below the $8.55 that the futures market is suggesting but well up on Fonterra’s rather cautious season opening mid-point forecast of $8.00.
At first blush, the recent pick up in dairy prices suggests there is upside risk to our farmgate milk price forecast. However, it important to remember that the season has just begun. There is a lot more water to go under the bridge over the coming months that could help sway prices and the exchange rate.
Productivity in agriculture.
Keeping with the agricultural theme, we recently published a report on productivity in the agricultural sector.
Improving productivity is important for farmers. Typically price takers, their living standards/quality of life/wellbeing are, in large part, tied to their ability to control unit costs of production. Producing more output for a given level of input can certainly help in that regard.
More broadly, lifting productivity could help the sector make a meaningful contribution to the Government’s goal of doubling the value of New Zealand exports over the next 10 years.
The sector itself has performed well on the productivity front. In its heyday back in the 1980s agricultural productivity rose by about 40%, slowing to around 30% a decade later. The catalyst was a series of market reforms, which as soon followed by a period of rapid mechanisation, the pursuit of economies of scale, and changes in land use, evidenced in part by the conversion of beef and sheep farms into dairy.
Indeed, between 1978 and 2023 multi-factor productivity in the agricultural sector grew by a whopping 189%. Contrast that to the fast-expanding services sector, which saw growth of 33% over the same period and the paltry 2% recorded for the goods producing sector, which includes manufacturing and construction. Even today, the agricultural sector continues to outperform its peers.
That said, the trajectory of productivity growth in the agricultural sector has slowed markedly over recent decades. There are two key factors at play here. The first is the extent to which actual levels of agricultural production have edged ever closer to the ecological limits of what can be farmed. We think that like their peers in other first world country, farmers in New Zealand already operate close to these limits. The second is the diminishing marginal returns that can be generated from ongoing investment in mechanisation (and new technologies).
Given the importance of productivity, the question then is what can be done to lift it?
In essence we think that requires both a change in production mix and farming practice. In the first instance, that is about changing the volume of different inputs in the production mix to deliver maximum greatest output gains.
In the second it’s about changing the quality of factor inputs used in the production process. In the case of labour, that is about improving the skills and competencies of the workforce. On the job learning has always been a feature of agriculture. Education is becoming increasingly important as farmers seek to bridge their lack of understanding of how technologies can deliver smarter and faster operations that make their life easier.
For capital, it’s about getting more out of machinery, plant, and equipment as well as land, and livestock through the adoption of smart or precision farming practices that leverage off cutting edge technologies and data driven approaches. Think sensors, drones, artificial intelligence, robotic process automation and enhanced data analytics - just to name a few.
There are, of course, obstacles to adopting smart farming practices and new digital technologies. Some farmers are set in their ways and prefer the tried and trusted. Cost is also an issue, especially when they are upfront and returns on investment take time to materialise. It’s also true that adopting new technologies can disrupt existing operations.
These obstacles are significant, but they can be overcome. New Zealand’s farmers have a long tradition of innovation and adopting new technologies, and there is no reason why that cannot continue in the future.
Customer feedback – How will the economic landscape evolve?
In the last two weeks, we have been holding presentations with customers around the country to discuss the key messages in our Economic Overview. At these presentations we asked customers their views on how the economic outlook will evolve.
When asked about when they expect that CPI inflation will reach 2%, customers generally expected the disinflation process to take some time. Late 2026 was a popular choice in most centres (although in Tauranga the most popular option was the first half of 2026). This gels with the RBNZ’s view and that of our own forecasts which suggest inflation will not settle close to 2% until 2026.
The fortunes of the labour market will be key in determining the pace and durability of the disinflation process. Customers universally expect the labour market to ease this year – although the expected pace of easing looks consistent with our own QEO projections (5.2% by end 2024) and the RBNZ (5%). A meltdown in the labour market (as occurred in the global financial crisis) is not seen as likely at this point.
Customers don’t seem to have a strong view on the direction of the currency for the rest of 2024 – again consistent with our expectation of a fairly flat performance this year.
Westpac’s Group Chief Economist Luci Ellis joined us for the Auckland and Wellington events. We added a different question to gauge views on which central bank will ease first. Customers see New Zealand as being last out of the gate on this score. Westpac Group’s global forecasts also reflect this view as we see easings in the US in September, Australia in November and New Zealand in February.
Finally in the regions we asked customers a more detailed question on when the RBNZ would begin to ease. 2025 looks like the most popular option which is consistent with our view that a February 2025 easing looks most likely all going well (and later if not!).
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