RBNZ keeps OCR at 3.5%, drops bias on higher rates; kiwi drops

Thursday 30th October 2014

Reserve Bank governor Graeme Wheeler kept the official cash rate at 3.5 percent, and toned down the prospect of higher interest rates as inflation remains unexpectedly low. The New Zealand dollar fell.

"CPI (consumers price index) inflation is currently at a low level despite above-trend growth. However, inflation is expected to increase as the expansion continues," Wheeler said in a statement. "A period of assessment remains appropriate before considering further policy adjustment."

Today's statement removed the bank's previous view that "further tightening will be necessary to keep inflation near the 2 percent target", reinforcing analysts' forecasts for a later resumption of tighter policy which included four rate hikes earlier this year. The bank had already signalled a slower pace of rate hikes in its September forecast for the 90-day bank bill rate, trimming 50 basis points from the projected horizon.

"We expect the OCR to remain unchanged at 3.5 percent, the pause duration to extend, and the resumption of the tightening cycle to become conditional," Westpac Banking Corp senior market strategist Imre Speizer said in a note before the release. "The resumption of the tightening cycle is now likely to be not until September 2015, rather than Q2 2015."

The New Zealand dollar dropped following the Reserve Bank statement. The local currency fell as low as 77.70 US cents from 78.13 cents immediately before the 9am statement. It was recently trading at 77.87 US cents.

Government data last week showed inflation slowed to an annual pace of 1 percent in the September quarter, slower than anticipated and only just within the Reserve Bank's target band of between 1-and-3 percent. The figures showed cheaper household contents and communication services and equipment offset more expensive housing, and a strong New Zealand dollar continued to limit tradable inflation.

Wheeler said the pace of inflation remains modest, with "subdued wage inflation, well-anchored inflation expectations, weak global inflation, falls in oil prices and the high New Zealand dollar" contributing to low price increases.

"House price inflation has fallen significantly since late 2013, in part due to interest rate increases and the LVR (loan-to-value ratio) restrictions," he said.

Wheeler imposed the limits on low equity home lending last year as a means to try and cool buoyant housing markets in Auckland and Christchurch without having to resort to interest rate hikes for fear of stoking demand for an already high New Zealand dollar.

He reiterated that the local currency is "unjustified and unsustainable" at its current level, and is holding back growth in the tradable sector, while acknowledging falling commodity price and global market volatility had taken some pressure of the kiwi.

"We expect a further significant depreciation," he said.

The local currency has dropped from a peak in July as global demand for the greenback grows on the prospect of the US Federal Reserve moving away from its extraordinary policy of the past five years, and the Reserve Bank has been active in foreign exchange markets to try and encourage its decline. The kiwi fell today after the Federal Open Market Committee was more about the prospects for the labour market. The Fed wound up its quantitative easing programme, and said it will probably keep the federal funds rate near zero for a considerable time, to assess the strength of the US economic recovery.

The RBNZ's Wheeler said the global economy is growing at a moderate pace, though recent data showed a softening in major economies excluding the US.

New Zealand's economy was growing above trend through 2014, with strong construction activity, high inbound migration and low interest rates supporting the expansion.

"Output growth is expected to moderate over coming years, towards a more sustainable rate," he said.

The ANZ Business Outlook survey yesterday showed firms were more confident in October, snapping seven months of decline, after the uncertainty of the Sept. 20 general election passed with the re-election of the incumbent National-led administration.

BusinessDesk.co.nz

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