Shadow board tips OCR hold

Economists say the impact of drought and rising house prices are key issues to take into account. Photo / Getty Images

Reserve Bank expected to keep key interest rate at 2.5 per cent but support for a hike is growing.

The NZIER shadow board thinks on balance the Reserve Bank should keep the official cash rate on hold at 2.5 per cent tomorrow, but compared with six weeks ago there is less support for a cut and more for a hike.

The shadow board is a panel of nine economists and businesspeople the New Zealand Institute of Economic Research asks to quantify their preference for various levels the bank could set its policy interest rate at.

The results are then aggregated to give a indicator not only of which rate the bank should go for, but the shifting balance of risks around it.

In the latest survey a 56 per cent weighting attaches to an unchanged OCR and 32 per cent to a cut, but there is now 12 per cent support for an increase.

"The economy is caught between two risks," said NZIER economist Kirdan Lees, who set up the shadow board.

"Drought will stifle production, but rising house prices, fuelled by surging mortgage growth, present an upside risk to inflation."

Bank of New Zealand head of research Stephen Toplis sees a stronger case for a higher OCR than a lower one.

"Leaving rates where they are now is probably the wrong decision. The problem is only time will tell us which way the Reserve Bank has got it wrong," Toplis said.

"The eventual outcome will depend on the tug of war between strengthening domestic demand [particularly housing], on the upside, and the drought on the downside

"We remain mildly optimistic [hence the upside bias] but increasingly nervous."

NZIER principal economist Shamubeel Eaqub is emphatic that the bank should not raise interest rates yet, citing a high New Zealand dollar, plenty of spare capacity in the economy, the risk of drought knocking 0.5 to 1 per cent off gross domestic product and a brittle global economy.

"But the balance of risks for the Reserve Bank is shifting. Resurgent house prices and mortgage borrowing are the key upside risks," Eaqub said.

"The bank should wait to see if Auckland and Canterbury house prices ease as new supply comes on, and move aggressively, including using macro-prudential tools, if not."