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15 Sep 2014

Interest Rate Rises to Slow Down

The Reserve Bank of New Zealand (RBNZ) has held the Official Cash Rate at 3.5 percent, also reducing the peak rate forecast by 50 basis points to 4.7 percent by 2017.  While interest rate increases are undeniably part of New Zealand's future, the September Quarter Monetary Policy Statement (MPS) indicates fewer and more spread out hikes than previously forecast as the RBNZ undertakes "a period of monitoring and assessment." 

After four rate hikes this year and the implementation of new high LVR speed limits, the Reserve Bank has decided to weigh up the effects of previous rate rises before administering more.  While many analysts expect house price inflation and housing supply to remain a big issue over the next few years, the RBNZ expect property prices to moderate and inflation to fall to zero in three years.

In the recent MPS, the RBNZ also softened its views on the ongoing effects of strong migration levels on house price inflation.  "Net immigration is assumed to have a more muted and lagged effect on housing demand than in previous cycles." said the Reserve Bank, saying the different composition of recent net migration could explain the "smaller or slower boost to housing demand than in the past."

Along with lower than expected house price inflation and less demand from migration, the RBNZ also cited moderate CPI inflation, subdued wage increases, well-anchored inflation expectations, weak global inflation, and the high New Zealand dollar for its new outlook.  Reserve Bank Governor Graham Wheeler also came out saying he has to weigh up the impact of weakening export dairy prices, which have almost halved from their peak last February.

Economists have delayed their forecasts based on the latest decision, with most major banks now expecting a rate rise in mid 2015 rather than early 2015 or late 2014.  Westpac changed its forecast for the next OCR hike to June 2015 from January 2015, with JP Morgan and TD Securities changing their OCR hike views to March 2015 from December 2014, and ANZ saying it may change its rate hike view from March to June if the New Zealand dollar doesn't fall as expected.  

According to Westpac Chief Economist Dominick Stephens, "The Reserve Bank has made it obvious that it is now in a different mood. Although the RBNZ's GDP forecast has changed little from previous statements, the RBNZ has changed its judgements around how economic growth will affect inflation."  ASB Senior Economist Chris Tennent Brown said ASB still expected a March hike, "but the remainder of the tightening cycle could be slightly more elongated than previously forecast."

Future rate decisions will depend greatly on the NZ Dollar, which remains out of line with other economic factors according to the RBNZ.  While the Kiwi dropped to 82 USc following the Reserve Bank announcement, and the Reserve Bank "expect a further significant depreciation, which should be reinforced as monetary policy in the US begins to normalise... The exchange rate has yet to adjust materially to the lower commodity prices. Its current level remains unjustified and unsustainable."