Debt crisis could push interest rates higher

File photo

New Zealand's banks will be forced to raise interest rates even without a monetary policy tightening if global financial market turmoil continues to push up funding costs, says Reserve Bank Governor Alan Bollard.

Bollard held the official cash rate at 2.5 per cent today, saying the deteriorating global outlook has made international money markets tighten their lending, and that may filter into local banks.

Though New Zealand banks are currently well-funded, they will face bigger fees when trying to tap offshore money if the current turmoil doesn't settle down.
If that happens, banks will have to raise lending and deposit rates without any movement in the OCR.

"Sovereign debt concerns in Europe and the weakened global outlook have caused international bank funding markets to tighten," Bollard said. "If conditions do not improve, New Zealand bank funding costs will increase."

Local lenders have already experienced premiums to local depositors after the Reserve Bank's new liquidity policy meant banks had to source less funding from so-called 'hot money' in short-term foreign markets. Because they were competing in a small market, mortgage and deposit rates rose markedly relative to the OCR.

The bank said "the indicative cost of long-term funding has increased materially" for local lenders, though actual lending costs haven't yet been affected.

"The recent tightening in international funding markets highlights the risk that the cost of longer-term wholesale funding might increase further," the bank said in the September monetary policy statement.