Reserve Bank likely to keep official rates on hold

Reserve Bank acting governor Grant Spencer is expected to keep rates on hold at this Thursday's release of the bank's latest monetary policy statement. Picture/Jason Oxenham, NZ Herald.

Economists expect the Reserve Bank to keep its official cash rate at 1.75 per cent when it releases its monetary policy statement on Thursday, but the timing of future hikes will be cloudy until the new Labour-led government's policies are bedded in.

Whichever way, they say official rate hikes are some way off. Most expect a lift in the rate near the end of 2018 while the Reserve Bank's forecasts suggest a hike towards the end of 2019.

Local monetary policy aside, there is upward pressure on interest rates coming from overseas as central banks look to unwind the artificially low rates that have been in place since the Global Financial Crisis.

Last week, the Bank of England lifted its rates for the first time in a decade - to 0.5 per cent from 0.25 per cent. The US Federal Reserve, which has raised rates twice this year, kept its rate in a 1 per cent and 1.25 per cent range but its commentary did little to counter market expectations that it would move again in December.

Last month, the European Central Bank said it would cut the level of bonds it purchases every month and the influential US 10-year bond yield recently went through 2.4 per cent.

ANZ chief economist Cameron Bagrie said the signals from abroad were for slightly higher domestic interest rates.

"The global nuances that we have been getting from the central banks is that there is a desire to turn down the liquidity tap," he said.

"They are starting to think more about the financial stability risks (of low rates)," he said.
"If you keep the global economy pumped up on that low interest rate steroid, the danger is that you can create those financial stability risks," he told the Herald.

Meanwhile, financial markets face the prospect of a new policy targets agreement (PTA) between the Government and the Reserve Bank.

The current agreement requires the bank to keep future annual inflation between 1-3 per cent on average, over the medium-term, with a focus on keeping future average inflation near the 2 per cent target midpoint.

Labour wants to broaden the agreement to add full employment as goal while NZ First has talked about altering current policy settings.

Annual inflation came to 1.9 per cent in September year but the new government's polices on wages and regional petrol taxes could push prices higher.

Last week's stronger than expected jobs data, which pointed to a tighter labour market and to upside risks to inflation, may have raised some eyebrows at the Reserve Bank, but BNZ said it expected overseas interest rates trends - particularly the US 10-year bond yield - to be the key influence on local interest rates.

BNZ said a new PTA would take a long time to implement and would not necessarily suggest "any less pre-disposition" for the Reserve Bank to hike.

"Our view is that the broader policy mix, while uncertain, seems unlikely to herald a major change for the New Zealand growth trajectory in the short term," BNZ said in a commentary.

"In addition, the coalition government's broad policy suite is inflationary and the NZ dollar has fallen sharply," it said.

The Reserve Bank was likely to deal with this aspect in its monetary policy statement forecasts but BNZ said it may be too soon to see major changes to the official cash rate's forecast track.

"But along with other data such as the latest jobs report, the balance of risks is pointing to a tighter labour market and upside risks to the inflation outlook," BNZ said.

ASB said the Reserve Bank was facing an outlook "of many moving parts", with uncertainties remaining over the policy outlook making it an awkward time to deliver a set of economic forecasts.

"The change in Government will bring a range of new policies that will likely tweak the economic outlook," ASB said. "But it is too soon for the Reserve Bank to properly assess the economic and inflation impacts," it said.

At Friday's late afternoon level of US69.2c the New Zealand dollar has fallen by just under US2c since NZ First leader Winston Peters announced the coalition deal on October 19.

The currency is US3c down since the last review of the official cash rate on September 28.