The Reserve Bank raised the official cash rate to 2% from 1.5% in a bid to bring down inflation, which is currently at its highest level in 31 years.
The central bank has also significantly increased its forecast of the level to which the OCR could increase over the next three years.
He now expects the rate to climb to around 3.4% by the end of this year, peaking at 3.9% from June next year.
As the bank tends to move the OCR in increments of 25 basis points, this implies a high probability that the rate will cap at 4%.
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* When will the full impact of interest rate hikes be reached?
* NZ Reserve Bank tipped to raise official exchange rate to highest level since 2016
Most economists expected the central bank to announce a “double” OCR hike to 2%, but some thought it would settle for a smaller 25 basis point increase.
The 50bp move means OCR is now at its highest level since 2016.
But the magnitude of the expected rise in future rates seemed to surprise the market and could quickly affect longer-term fixed mortgage rates.
ASB chief economist Nick Tuffley said he had thought the Reserve Bank “would be swinging”, but his statement was even more hawkish than expected.
Finance and Expenditure Committee / New Zealand Parliament
Reserve Bank Governor Adrian Orr disagrees with the “regret analysis.”
“The Reserve Bank’s new OCR forecast profile implies both a higher than expected OCR peak and a faster pace of tightening to achieve it,” Tuffley said.
Ahead of Wednesday’s monetary policy statement, the Reserve Bank forecast the OCR to remain below 3% through the middle of next year and peak at around 3.4% in 2024.
A silver lining for mortgage lenders is that the Reserve Bank now sees light at the end of the tunnel and expects OCR to start falling towards the end of 2024.
The Reserve Bank explained the magnitude of its rate hike by saying that “a larger and earlier increase in the OCR reduces the risk of inflation persistence, while providing greater policy flexibility to the future given the highly uncertain global economic environment”.
Heightened global economic uncertainty and rising inflation have weakened global and domestic consumer confidence, the Reserve Bank said.
“Asset prices, particularly house prices, have also fallen, partly reflecting higher mortgage interest rates and increased housing supply,” he said.
But he said the “underlying strength” remained in New Zealand’s economy, “supported by a strong labor market, strong household balance sheets, continued fiscal support and strong terms of trade”.
“The reduction in Covid-19 health-related restrictions also allows for increased economic activity, including hospitality and tourism,” he said.
The Reserve Bank expects annual inflation to decline to 4.4% by March next year and fall to 2.5%, within its target range, a year later, but it expects unemployment to rise gradually to reach 4.7% by March 2025.
He “noted” government budget announcements and said government spending was “contributing to a modest increase in demand”.
But he tempered that message by saying the stimulus is likely to wane in coming years.
National Party finance spokeswoman Nicola Willis said raising interest rates would be difficult for people struggling with “the cost of living crisis”.
“We have known since last year – long before the Russian invasion of Ukraine – that New Zealand had an inflation problem, but the government’s only response has been to put more fuel on the fire with more expenses,” she said.
“Now the Reserve Bank has no choice but to raise the OCR, which drives up interest rates across the economy and creates more pain for mortgage holders. “
The harsh statement from the Reserve Bank had an immediate impact on financial markets, with the New Zealand dollar gaining around 0.5 cents US to trade at 64.8 cents US.
Capital Economics economist Ben Udy said the Reserve Bank looked “hawkish” in its Wednesday statement but pointed to the fact that it now sees rates falling in years to come.
“We anticipated that this housing downturn would force the Reserve Bank to reverse course and cut rates in 2023,” he said.
“Admittedly, his forecast calls for rate cuts in 2024, a little later than our own forecast. But the key point is that the bank is now forecasting rate cuts and we suspect market prices and analyst consensus won’t be far behind,” he said.