As was widely expected, the Reserve Bank of New Zealand (RBNZ) this morning increased the official cash rate (OCR) from 2.75% to 3.00%. This marks the second increase in this cycle following the 0.25% increase on March 13.
The RBNZ did not release a full set of economic forecasts and detailed commentary following today’s announcement – that (called a “Monetary Policy Statement” or MPS) occurs quarterly, at every second OCR review date. Instead, today we simply received a brief statement outlining the reasons for the interest rate decision.
In our view, the statement for today’s OCR increase was fairly inconsequential.
There are two reasons for this.
Firstly, because the statement was little changed from the March meeting, indicating that the RBNZ’s assessment of the economic and interest rate outlook is little changed.
And secondly, the limited new comments the RBNZ did make (including acknowledging the 20% decline in dairy auction prices in recent months, and higher inflation pressures in construction) were to be expected.
Looking ahead, interest rates still need to rise further to prevent inflation pressures building as the NZ economic recovery gathers pace. At Milford we continue to expect a couple of further increases in the OCR this year, probably at the next meeting on June 12, then again towards the end of the year.
The strong momentum the economy and housing market are expected to take into 2015 should also mean further rate increases next year. We expect another 2-3 increases so that by the end of 2015 the OCR stands around 4-4.5%.
In previous interest rate cycles, the OCR (introduced in 1999) peaked at much higher levels – 6.5% in 2000, 5.75% in 2002, 7.25% in late 2005, and 8.25% in 2007. Partly because of this, it is reasonable to think that the OCR may need to go higher than this 4-4.5% range, potentially in 2016 if the economic recovery is sustained.
However, there are three important factors that are likely to mean that official interest rates in NZ will not need to rise as far as they did in those earlier cycles.
- Firstly, interest rates across the world are very low, which make our higher rates (even at the current 3%) stand out, and as a result pushes our currency higher.
- Secondly, a greater proportion of households currently have floating rate mortgages (39% as of February 2014, compared to just 12.6% in December 2007 and 17.6% in December 2005). This means that consumers will feel the impact of interest rate increases more quickly in this cycle.
- And finally, the gap between mortgage rates and the OCR is higher in this cycle. This largely reflects that banks themselves currently have to pay more for their funding than in years before the financial crisis.
So, official interest rates in New Zealand should keep rising through the rest of this year and into 2015, but it will be hard to the see 10%+ mortgage rates of last decade repeated in this cycle.