“Survive until 2025” was the oft-repeated mantra throughout last year as households grappled with high mortgage rates, businesses saw demand fall away, and spending across the economy was down. But for a while in mid-2024, even hopes of a brighter 2025 seemed like they might be too optimistic, until the Reserve Bank accelerated the easing cycle for monetary conditions and started significantly cutting the official cash rate. Over the summer break, we’ve contemplated the economy’s prospects, and this article canvasses several key areas we’re monitoring, as we remain hopeful of less difficult conditions in coming months.

First, the good news: the value of core retail electronic card spending (which excludes volatile spending on motor vehicles and fuel) increased 3.8% between July and December 2024 (seasonally adjusted). Chart 1 shows that this lift represents the most positive run for spending since late 2022, and it follows a period where spending had fallen for 11 of the last 13 months. Household budgets had been massively squeezed by rapidly rising mortgage rates, with strong inflation in 2021 and 2022 also creating major cost-of-living pressures.

But has spending turned a corner that marks a new sustained upwards trend? To be honest, the pick-up in spending has been quicker than expected, and feels a bit premature given it began in July last year, but the Reserve Bank didn’t start cutting the official cash rate until August, and the average interest rate being paid across all mortgage debt didn’t peak until October. Consumer confidence improved by 12 points during the second half of 2024, according to the ANZ-Roy Morgan survey, but unlike business confidence, consumer confidence is still in negative territory and well below its long-term average (see Chart 2).

One of the interesting aspects of mortgage data throughout 2024 was the increasing concentration of lending that was only being fixed for a short period. By August last year, 48% of new fixed mortgages were being locked in for just six months, compared to an average of 5% during 2023. Similarly, by October, just 14% of new fixed lending was for 18 months or longer, compared to almost 60% during 2023. This anticipation by households of Reserve Bank cuts to the official cash rate suggests that the effects of easing monetary policy should flow through into consumers’ wallets and spending behaviour more quickly than the rate hikes did between 2021 and 2023.

It's worthwhile pointing out that trends in retail sales volumes have yet to show the shift that has occurred in the value of electronic card spending. Core retail sales volumes continued to head lower in the September quarter and are now a massive 8.9% below their June 2021 peak. Consumers might be spending more money, but that growth is essentially accounted for by higher prices, rather than buying more stuff. Real growth in volumes would provide more substance to the retail upturn. We think that volume lift is coming, but will take a little longer to fully emerge,

The pursuit of volume growth is also being hampered by sharply slowing population growth. Plunging net migration has seen population growth ease from 3.0%pa in September 2023 to 1.2% by September 2024, with a further slowdown likely to occur throughout 2025. Businesses will no longer have the mitigating influence of increased customer numbers to help offset the effects of weaker per-capita spending – making genuine growth in demand that much more critical for driving an increase in the volume of activity.

One of the other reasons why the jury is still out on whether recent data marks a sustained turning point for household spending is the labour market, which could continue to weigh on consumer confidence for some time in 2025. Monthly employment data at the end of 2024 showed the labour market in its worst state since 2009/10, with a 1.2% fall in job numbers over the year to November 2024 (see Chart 3). A 4.8% unemployment rate for the September quarter was not as bad as financial markets were expecting, partly because of a sharp dip in the participation rate as people dropped out of the workforce. Nevertheless, there has been a slight shift back in some forecasters’ expectation of peak unemployment during 2025, with no one now expecting the unemployment rate to get above 5.5%.

The labour market is often one of the last indicators to turn in the economic cycle, so by mid-2025 there could be a more widespread improvement in other data that is yet to be reflected in either job numbers or unemployment. We remain wary, though, about the weak labour market and its negative effects on confidence over the next six months. After such a stressful time for household budgets over the last three years, we expect consumers to retain an air of caution in their spending decisions for a few months yet. But with other indicators starting to look a little more upbeat, and business confidence up sharply in the second half of 2024, job numbers and employment confidence will need to be monitored closely. A quicker improvement in either or both of those figures would reduce the impediment to a faster lift in consumer demand.

The other aspect of the labour market worth keeping an eye on are migration trends. Chart 4 shows that Kiwi departure numbers finally look to be levelling off, but net foreign migration continues to tail off sharply, with rising departure numbers and much weaker arrivals than in 2023. These trends mean that overall net migration, and growth in the workforce, are still coming in below forecast. However, a late-2024 announcement by the government, which appears to reduce restrictions associated with the Accredited Employer Work Visa scheme, could lead to a renewed pick-up in lower-skilled immigration as employment and economic growth accelerate later in 2025.

Our third area of focus, the global geopolitical situation, is less quantifiable than trends in spending and employment activity. Uncertainty around global geopolitics is more heightened than even the last 2-3 years, when the war in Ukraine and conflict in the Middle East have created more than enough concerns. But the re-election of Donald Trump as US president has the potential to take things to a whole new level.

The effects of President Trump’s policies on the pre-existing conflicts in Ukraine and the Middle East are, at this stage, unclear. He seems likely to reduce US support for Ukraine (and NATO), which could result in a Russian victory, with obvious risks to Eastern European countries from energised Russian aggression. Equally, Trump has said he will negotiate an end to hostilities quickly – which is possible if Ukraine is willing to negotiate while in control of Russian land at Kursk to bargain with, rather than having critical support from the US withdrawn, leaving Ukraine to fight alone.

In contrast, he is a strong backer of Israel as an adversary of Iran. The recent collapse of Bashar al-Assad’s regime in Syria has weakened the position of anti-Western powers in the Middle East (which include Russian and Iranian influence), and President Trump’s support for Israel seems likely to further that trend.

Perhaps more alarmingly, though, rhetoric from President Trump suggests that he is not averse to using (or at least threatening) force of his own to increase US influence or gain control over Greenland and the Panama Canal. But his opposition to mounting Chinese and Russian power appears to only be based around a narrow American self-interest, in contrast to the broader role of global “policeman” that the US has largely maintained since World War II. As such, President Trump’s policies represent a continuing destabilisation of the existing international order, and these policies could lead to further increases in global conflict in coming years. The effects on the global economy would be significant and far-reaching, with New Zealand’s reliance on exports making us particularly vulnerable, especially given China’s current role as our largest export market.

Turning to more core economic issues, President Trump’s threatened use of tariffs as both a tool of economic aggression (against the likes of China) and trade protection for the US (for example, his proposed blanket 10% tariff on all imports) also reinforce perceptions of a more inward-looking American policy approach. Increased tariffs would continue the trend towards greater barriers and slower growth in international trade, ultimately undermining global economic growth and potentially adding to tensions between countries on opposing sides of the trade divide. From New Zealand’s perspective, the tariffs would undermine the strong gains in exports to the US we have achieved over the last five years. The likelihood of even larger tariffs on Chinese products would also hit manufacturing activity in China, making that economy’s path towards recovery even more difficult. The flow-on effects would be negative for the export potential of New Zealand and Australia (as well as many other countries) to China.

Although much of President Trump’s policy platform could be detrimental to global growth over the medium term, financial markets see many of his policies as being stimulatory for near-term US economic activity and inflation. December’s Consensus forecasts for US inflation in 2025 were higher than at any time over the previous 15 months. Driven partly by this expected shift in fiscal policy, and partly by broader concerns about the Federal Reserve’s success in getting inflation back to 2%pa, US 10-year government bond rates have lifted from 3.6% to as high as 4.8% since mid-September. As Chart 5 shows, a continuation of the upward trend could see bond rates over 5% for the first time since 2007.

In New Zealand, the lift in long-term interest rates has not been as marked, with 10-year government bond rates increasing from 4.1% to 4.8% over the same period. Swap rates, which are used for setting retail mortgage rates, have drifted sideways or lower for all but the longest terms. Nevertheless, the threat of higher international inflation cannot be ignored, given the lingering pockets of price pressure here that are behind the Reserve Bank’s forecast reacceleration in inflation to 2.5%pa later this year, and the fact that much of the moderation in headline inflation to date has been due to falling tradable (international) prices. The New Zealand dollar is also at its weakest against the greenback since 2022, and it is not far away from a 15-year low (see Chart 6), which adds further pressure to prices for tradable products.

By the end of this year, financial markets are picking an official cash rate of between 3% and 3.25%. Our current forecast for the official cash rate at the end of 2025 is 3.25%, with the Reserve Bank’s November Monetary Policy Statement showing around 3.5%. Even if this year’s recovery in household spending and the labour market takes some time to gather momentum, the Reserve Bank might find its room for movement becomes more restricted if US inflation picks up or the Federal Reserve scales back its programme of monetary easing. And with longer-term international interest rates pushing high, further falls in fixed mortgage rates in New Zealand could be relatively limited.

In summary, a recovery of sorts for the New Zealand economy appears likely this year. The exact timing remains uncertain, but there are enough lingering concerns to suggest that the speed of the upturn, when it does get underway, will be somewhat muted. And, as is so often the case, New Zealand’s prospects will be largely determined by events on the global stage. Export commodity prices have recovered throughout 2024 to more favourable levels, but if the global geopolitical order crumbles this year, those better export prices might not count for much. “Survive until 2025” still rings true, but which part of 2025 is still uncertain. And it might still be a question of surviving rather than thriving – in the near term, at least.