OCR increased to 6.25 per cent

9.10am

The Reserve Bank has increased the Official Cash Rate from 6.00 per cent to 6.25 per cent.

The Bank has also said further tightening of monetary policy is likely to be required.

Speaking at the release of the Reserve Bank's September 2004 Monetary Policy Statement, Governor Alan Bollard said the New Zealand economy was performing very strongly and recent economic data had delivered positive surprises.

He added: "Economic growth is near its peak, but resources will remain stretched for some time, and inflation pressures remain strong.

"In terms of the economic outlook, there are risks to consider. The consensus view in our projections is that global economic activity is expanding at a reasonable pace.

"However, high world oil prices and softer growth in the US could slow global economic growth. Further, if the TWI continues to rise, or if commodity prices fall sharply, our growth prospects would be weaker."

Dr Bollard said the domestic economy had been heavily influenced by housing, which was expected to continue to slow over coming months.

He said: "If that weakening is delayed, then household spending would continue to expand at a rapid rate, fuelling inflation pressures. This could be compounded by continuing strength in the labour market."

While the rising New Zealand dollar had pushed import prices lower, keeping inflation in check, domestic inflation was expected to remain strong due to tight production capacity.

Assuming the exchange rate was near a peak, import prices were unlikely to continue falling, Dr Bollard said. As a result, even though economic growth was likely to slow next year, inflation was projected to increase.

Dr Bollard said the Reserve Bank was required to keep inflation between 1 and 3 per cent on average over the medium term and to minimise unnecessary instability. Monetary policy was therefore always a balancing act.

"We are using this flexibility to the full," the governor said. "However, looking ahead we do not have much inflation headroom, which is why we are continuing our incremental tightening of monetary policy."