New Zealand Monetary Policy August 2016

New Zealand

New Zealand: Reserve Bank of New Zealand slashes Official Cash Rate to record low in August; further cuts on the horizon

August 11, 2016

At its meeting held on 11 August, the Reserve Bank of New Zealand (RBNZ) decided to slash the Official Cash Rate (OCR) by 25 basis points to a record low of 2.0%. The decision matched market analysts’ expectations of a cut even though some analysts had expected a larger one of 50 basis points. By this means, the RBNZ is hoping to bring inflation closer to the middle of the 1.0%-3.0% target range against a backdrop of heightened economic uncertainty and low commodity prices.

The Bank said that the global economic outlook remains weak despite accommodative monetary stimulus in many countries. Since the RBNZ’s June Monetary Policy Statement, many central banks have further cut their policy rates. The outlook for the global economy and commodity prices remains uncertain amid heightened geopolitical risks and greater uncertainty surrounding global economic growth, though still-low commodity prices are keeping inflationary pressures muted.

The latest inflation data show that headline inflation remains below the RBNZ’s target band. Inflation is expected to weaken further in the third quarter due to lower prices for fuel. In the last quarter of the year, inflation is expected to rise on the back of the current monetary policy stimulus and a solid domestic economy. The Bank, however, did not rule out that inflation expectations could be lowered due to “sustained weakness in headline inflation”.

In its assessment of the local economy, the Bank considers that growth will be supported by its accommodative monetary policy, construction activity, tourism and strong inward migration. Nevertheless, the New Zealand economy is under pressure from a host of factors. Low dairy prices are staving off investment in the industry while strong migration flows are choking wage growth in the industry. The Bank considers soaring house price inflation a serious issue that could unsettle financial markets and is “consulting on stronger macro-prudential measures” to mitigate risks.

The Central Bank, however, remarked that the rate cut had resulted in a strengthening of the New Zealand dollar. According to the RBNZ, “weak global conditions and low interest rates relative to New Zealand are placing upward pressure on the New Zealand dollar exchange rate.” In other words, a stronger NZD is putting pressure on the country’s exports and suppressing import inflation.

Going forward, the Bank maintained its dovish stance on policy rates. Current Bank projections indicate that, “further policy easing will be required to ensure that future inflation settles near the middle of the target range.”

Commenting on the RBNZ’s policy stance, Senior Economist Charles St-Arnaud from Nomura stated that:

“Overall, today’s decision suggests that another rate cut is very likely. However, given the central bank's concerns regarding the housing market and its impact on financial stability risks, it seems that the next rate cut is not imminent. Nevertheless, we believe that a rate cut is very likely before the end of the year. In terms of timing, we believe it is likely to come at the November meeting, unless NZD depreciates before then.”

FocusEconomics panelists expect that the OCR will end 2016 at 2.00%. For 2017, participants see the interest rate ending the year at 2.06%.

Author: Jean-Philippe Pourcelot, Economist

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New Zealand Monetary Policy Chart

New Zealand Monetary Policy August 2016 2

Note: Official Cash Rate (OCR) in %.
Source: Reserve Bank of New Zealand.

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