Rising interest rates, Chch rebuild will weigh on OCR - Bollard

Reserve Bank Governor Alan Bollard. File photo / NZPA

Reserve Bank Governor Alan Bollard says future monetary policy decisions will have to account for any increase in retail interest rates and the looming construction boom in Christchurch.

Speaking at the Canterbury Employers' Chamber of Commerce, Bollard said Europe's sovereign debt crisis is increasing international bank funding costs, which will probably lead to higher retail interest rates locally.

That means the central bank will have to "take account of such pressures" when making future decisions on the level of the official cash rate. In the December monetary policy statement, the bank flagged higher funding costs as a "particular concern" as interest rates would move independently to the OCR.

On top of that, Bollard said the Canterbury rebuild is likely to create similar demand to the mid-2000s housing boom, leading to a sharp rise in residential and non-residential property investment.

"Spare capacity and labour will be absorbed rapidly, and inflation pressures will pick up from current low levels," Bollard said. "We will need to keep monitoring this to judge whether the level of the OCR continues to be appropriate."

The "high degree of uncertainty" over Canterbury's rebuild was taken into account in yesterday's OCR review, and the central bank expects work won't begin in earnest until 2013.

Bollard kept the official cash rate on hold at record low 2.5 per cent, saying the international uncertainty had slightly diminished, but it was still "prudent" to keep the benchmark rate at the current level.

Economists aren't picking the central bank to start hiking interest rates until late this year or early 2013, and traders are betting on a possible cut in the coming year, with a 3 basis point reduction forecast over the next 12 months according to the Overnight Index Swap curve.

Still, Bollard was upbeat about the way New Zealand's financial system has weathered both Europe's deepening debt woes and the Canterbury quakes.

"The challenge for all of us, policymakers and business people alike, in 2012 will be to deal with these 'known unknowns', to get on with economic activity and to help Christchurch and New Zealand grow," he said.

Bollard said New Zealand's flexible currency has helped cushion the impact of external shocks on the local economy, highlighting the weakness of the euro-zone's single currency in dealing with the problems faced by that region's individual members.

If Europe's problems deteriorate and seep into Asian economies by pushing down commodity prices, Bollard said that will probably have a "marked impact on Australia and New Zealand."