Reserve Bank leaves OCR unchanged at 3.5 per cent

Reserve Bank of New Zealand Governor Graeme Wheeler. Photo / Mark Mitchell

The Reserve Bank of New Zealand dropped its explicit reference to a tightening cycle for interest rates, saying inflation could turn negative before returning to its target band and the official cash rate may be raised or lowered dependent on economic data flows.

The kiwi dropped to a fresh three-year low.

Governor Graeme Wheeler kept the OCR at 3.5 percent, as expected, and said a move back toward the mid-point of the bank's 1 percent-to-3 percent target band for annual inflation may occur "more gradually that previously anticipated."

"In the current circumstances, we expect to keep the OCR on hold for some time," Wheeler said in a statement released in Wellington.

"Future interest rate adjustments, either up or down, will depend on the emerging flow of economic data."

The New Zealand dollar fell as low as 73.67 US cents, matching the low it touched in November 2011.

The kiwi was recently trading at 73.74 US cents, from 74.44 cents immediately before the release of the 9am statement.In the December monetary policy statement Wheeler said that further hikes in the OCR were "expected to be required at a later stage".

Hinting at a possible cut in interest rates today marks a significant change in the language of the Reserve Bank, which hiked the OCR by 100 basis points in the first half of 2014 before signaling a pause in July to assess the impact and gauge economic figures.

The bank hasn't cut the OCR since it was reduced to a record low 2.5 percent in March 2011.

Traders began pricing a small prospect of rate cuts into the overnight interest swap curve after data this month showed the consumers price index fell 0.2 percent in the fourth quarter compared to the central bank's forecast of a 0.1 percent increase.

However, economists say cutting interest rates would risk inflaming the housing market in a domestic economy where spare capacity is being used up.Wheeler said rising construction activity and household incomes are helping keep New Zealand's annual economic growth above 3 percent and there are signs the housing market is picking up, particularly in Auckland.

Still, "fiscal consolidation, the reduced dairy payout, the risk of drought and the high exchange rate will weigh on growth," he said.

Wheeler reiterated that the New Zealand dollar was unjustifiably high and its level was unsustainable in terms of the nation's long-term economic fundamentals.

He repeated his comment at the December MPS that the bank expects to see "a further significant depreciation."

He devoted two of the eight paragraphs in today's statement to the decline in the price of crude oil, saying the 60 percent decline since June last year will have "a significant impact on prices and activity in New Zealand, most directly via the decline in fuel prices.

"This will increase households' purchasing power and lower the cost of doing business," he said.

The bank said trading partner growth in 2015 was expected to be similar to 2014, noting that in recent quarters US economic growth has remained robust while easing in China, Japan and the euro zone.