To cut or not to cut - that is the question for RBNZ

Friday 5th June 2009

Economists are divided over whether central bank Governor Alan Bollard will cut interest rates to a new record-low next week, as a resilient currency curbs the prospects for an export-led recovery, and long-term interest rates remain relatively high.

The Reserve Bank of New Zealand will cut the official cash rate 25 basis points to 2.25%, according to a Reuters survey. Still, ANZ National Bank and ASB Bank, the largest and third largest banks in New Zealand by total assets, predict no change. The lack of consensus increases the scope for the June 11 Monetary Policy Statement to move the kiwi dollar and interest rates.

“The market has a 50/50 split, but we’re in the hold camp,” said Khoon Goh, senior markets economist at ANZ National Bank. “Further cuts in the OCR will not likely to translate into lower lending rates” and we think the Governor should keep some ammunition up his sleeve, he said.

Bollard embarked on the steepest series of cuts to the OCR in July, cutting 575 basis points to 2.5%, as he sought to revive an economy that fell into its first recession in a decade. In April, he said rates would remain at or below current levels until late next year.

The New Zealand dollar climbed to almost 66 U.S. cents this week, an eight-month high, having soared 29% since dipping below 50 U.S. cents in March. It recently traded at 63.36 cents. The kiwi is some 17% above the Reserve Bank’s forecast track and Goh said that increases the likelihood that Bollard will attempt to jawbone the kiwi lower next week.

Bank of New Zealand is leaning toward a 25 basis point cut next week, according to chief economist Tony Alexander.

“On the side favouring a cut there is the surging New Zealand dollar which will sap the export sector’s strength in the near future, and the continuing economic shrinkage offshore,” he said.

BNZ sees the OCR at 2% by mid-year. The New Zealand Institute of Economic Research highlighted the resilience in the currency as a drag on an export-led recovery in its quarterly update this week, while Fonterra Cooperative Group, the largest dairy exporter in the world, said the kiwi’s strength contributed to the 13% decline in its opening forecast payout for the 2010 season of $4.55 per kilogram of milk solids.

Export sales slumped 53% in the 12 months ended April 30, according to the New Zealand Manufacturers and Exporters Association’s survey of business conditions. Chief executive John Walley said last week’s budget “did not offer much hope or support for exporters” and the situation was still “bleak.”

The NZMEA survey covered around $178 million in export sales of a total NZ$423 million across exporters and manufacturers. The other concern for Bollard is long-term interest rates, Goh said. The market is pricing in rate hikes for next year, and banks typically fund longer-term lending from offshore, so long-term fixed rate mortgages don’t tend to react as much to changes in the OCR.

ASB today boosted its five-year fixed mortgage rate to 8% from 7.5%, and lifted its three- and four-year rates to 6.95% and 7.55% respectively.

Nick Tuffley, chief economist at ASB, said Bollard may try to jawbone the currency and long-term interest rates lower, but said the “effectiveness is likely to be very limited, with any impact short-lived.”

In April, Bollard waded into the market when he said long-term rates were “out of line” with the bank’s expectations. His statement helped push the currency down about 1 U.S. cent, thought it quickly recovered.

The Reserve Bank of Australia held its target cash rate at 3% earlier this week as it continues to monitor the state of the Australian economy. The nation avoided a technical recession after first-quarter gross domestic product grew 0.4%, helped by the Rudd Government’s fiscal stimulus efforts.

Bollard indicated New Zealand interest rates can’t head toward zero because of the nation’s dependence on foreign investment, and the Governor will have taken into account the RBA’s decision to stand part, Goh said.

Businesswire.co.nz

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