Reserve Bank holds rates but next decision finely balanced

By NZPA

Thursday 23rd January 2003

The Reserve Bank left New Zealand's benchmark interest rate unchanged today but its rate-cutting finger is on the trigger.

The decision to keep the Official Cash Rate (OCR) steady at 5.75 percent for the sixth straight month was in line with most economists' expectations.

The central bank said the strong New Zealand dollar had helped balance more robust than expected domestic activity, led by a housing boom and consumer spending.

"For the moment it is appropriate to leave the OCR unchanged, reflecting the strong growth in the New Zealand economy. However, the balance of risks around the future path of interest rates has shifted," Governor Alan Bollard said today.

"If the exchange rate remains at present levels or appreciates further, and if the evidence points to reduced pressures on resources and medium-term inflation, then there may be scope for a cut in the OCR later in the year."

Mike Burns, foreign exchange manager at Westpac, said the Reserve Bank had shifted the balance of risk towards an easing bias, "but not enough to actually pull the trigger".

Westpac treasury economist Nick Tuffley said the Reserve Bank's decision was finely-balanced. It would only take a little bit of New Zealand dollar weakness, continued domestic economic strength, and encouraging signs in the global economy for the Reserve Bank to actually consider a rise in the OCR, Mr Tuffley said.

"On balance we believe that the OCR will remain on hold until the second half of the year, but that a cut is still more of a risk than an inevitability."

The Reserve Bank delivers its next decision on interest rates with the release of the Monetary Policy Statement on March 6, and economists tended to favour the bank cutting rates in June.

"It is the inclination of the bank to cut," Bank of New Zealand economists said in a commentary.

"But it remains petrified by the strength of the domestic economy which it can't risk stimulating at the moment."

The bank would have to be sure the economy was about to come under substantial growth pressure in case of a fall in the currency or output before cutting rates, the BNZ said.

The BNZ predicted the cash rate would be either unchanged or 50 points lower by June, combining two 25-point cuts in a single move.

The OCR, which influences the interest rates that banks charge customers, is one tool the Reserve Bank has to keep inflation within a range agreed with the Government.

Inflation as measured by the Consumers Price Index (CPI) is currently running at 2.7 percent annually.

"As expected, overall CPI inflation has remained towards the upper end of the 1 percent to 3 percent target band for inflation over the medium term," Dr Bollard said.

Inflation is tipped to edge down to about 2 percent in the next nine months, partly because of the exchange rate and the external environment including economic woes in the US and a looming war with Iraq.

At the same time, the New Zealand economy is expected to slow down, with growth easing to about 2.5 percent from current levels around 4 percent.

Exporters and manufacturers have called for the bank to cut interest rates, with the latest survey by the New Zealand Institute of Economic Research (NZIER) showing businesses are no longer confident the domestic economy will protect them against a rising kiwi and poor global economy.

A higher currency cuts exporters' returns while also lowering the cost of imports.

The New Zealand dollar has risen 10 percent against the United States dollar since the start of November and 5.4 percent against the Australian dollar.

It gained slightly after the announcement and is currently hovering at a nearly four-year high against the US dollar. The 90-day bill rate, a key source of funds for banks' home loans, was at 5.80 percent this afternoon.

New Zealand's benchmark interest rate remains higher than the United States' 1.25 percent, Britain's 4 percent and Australia's 4.75 percent.

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