Bollard keeps rate cut option alive as resilient kiwi curbs recovery

Thursday 30th July 2009

Reserve Bank Governor Alan Bollard, who held the official cash rate at 2.5% today as expected, signaled he’s willing to cut interest rates again if the resilient kiwi dollar undermines the nation’s economic recovery.

The currency tumbled 1.3% after his statement. The high New Zealand dollar is helping keep the economy “weak,” thwarting the prospects of an export-led recovery and hindering the “sustainability of future growth,” Bollard said in a statement in Wellington.

If the forecast recovery is put at risk “we would reassess policy settings.” A strong kiwi dollar may prompt the central bank to cut the OCR to 2% in the coming months, according to ASB Bank.

“The RBNZ was very upfront on the risks presented to the economic outlook due to the higher NZ dollar,” said Nick Tuffley, chief economist at ASB. “This statement signals RBNZ has increased its willingness to cut the OCR.”

Exporters say the resilient kiwi dollar, which has climbed about 32% from its lows in March, is eroding returns in already weak world markets. Fonterra Cooperative Group chair Henry van der Heyden predicts milk payments to farmers will probably fall 13% this year as the exchange rate puts downward pressure on milk prices.

The kiwi dollar tumbled to 64.98 US cents after the statement from 65.65 cents immediately before.

New Zealand’s economic outlook is “highly uncertain,” Bollard said. The rise in global commodity prices isn’t reflected in raw materials produced domestically and “it will be some time before growth returns to healthy levels.”

Philip Borkin, economist at ANZ National Bank, said the “whole statement was directed at the currency” and the external imbalances that are putting the recovery at risk. “Bollard is really in a bind at the moment as he can’t cut rates and risk the housing market getting away on him,” while exporters needing a weaker currency to bolster returns, Borkin said.

Exports for the month of June fell 11% to $3.2 billion from the same month a year earlier, according to government figures this week. Bollard embarked on the steepest series of cuts to the OCR in July last year, and has slashed 575 basis points from the benchmark rate as he seeks to lift the economy out of its deepest recession in more than 30 years.

The resurgence in the property market prompted him to warn households against resuming a mentality of “borrow and spend” last month, and while he didn’t reiterate that sentiment today, he again mentioned interest rates were higher than assumed in the central bank’s forecasts.

Last month, Bollard criticised banks for failing to pass on cuts to the OCR into their floating and short-term rates, and politicians waded into the issue when a Parliamentary Finance and Expenditure Committee report chided lenders for their level of borrowing costs.

The committee later voted against holding an inquiry into the banks’ profit margins, but members of the opposition are currently taking submissions for their own investigation.

While net migration, lower taxes and interest rates reignited demand in the housing market, Bollard shied away from the optimistic outlook held by his Australian counterpart Glenn Stevens, who hinted the RBA may hike rates before unemployment peaked.

New Zealand will probably see a “patchy recovery” beginning near the end of this year, Bollard said in his statement today. The bank didn’t hold a media conference in conjunction with the release.

Bollard also repeated his view of the past two months that interest rates would remain at or below current levels until late next year, and said inflation was “well within the target band” and was expected to track “comfortably” in this range in the medium-term.

The consumer price index eased to an annual 1.9% in the second quarter, down from 3% three months earlier

Borkin said the statement was more dovish than expected, removing all references to the upsides in the economy. He expects the central bank to keep saying rates will remain low until there’s a pick-up in the domestic economy.

The central bank is probably considering prudential measures to assist in rebalancing the economy as it remains “focused on the troubles facing the external sector,” Borkin said.

New Zealand business confidence climbed to a seven-year high in July with a net 19% of firms expecting business conditions to improve in the coming year, according to National Bank’s Business Outlook, released yesterday.

The results suggest “the light at the end of the recession tunnel may be just around the corner,” said Cameron Bagrie, chief economist at ANZ National Bank.

Tempering optimism about the outlook, government figures yesterday showed home-building consents tumbled in June, reflecting a drop-off in apartments from the previous month and the continuance of broadly weak issuance levels.

At the same time, commercial building consents fell to $307 million, the lowest since September 2007, partly reflected by one-off projects in prior months, including development at Christchurch airport.

Businesswire.co.nz

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