KEY POINTS:
An interest rate increase in the New Year is looking increasingly likely after business confidence hit a three-year high as the Christmas spend-up started and the economy gained strength.
The National Bank's business outlook survey, issued yesterday, showed general business confidence up on last month's robust reading.
Pessimists still outnumbered optimists - a net 8 per cent of businesses expect general conditions to deteriorate over the next year - but overall confidence is at its highest since November 2003 when the economy was growing by about 3.7 per cent a year. Last month's survey showed a net 14 per cent were pessimists.
But the "own activity" indicator - a more reliable measure of growth prospects - remained unchanged at a net 24 per cent of businesses expecting to do better in the year ahead.
ANZ National Bank chief economist Cameron Bagrie said that figure was consistent with economic growth of 2.5 per cent a year or more, indicating the economy was continuing to recover from a slump late last year.
"The rebound in gross domestic product growth seen over the first half of this year is looking increasingly like it is being sustained," said Bagrie.
September quarter GDP figures will be issued on Thursday, and economists surveyed in a Reuters poll expect an annualised figure of 1.8 per cent.
Tight financial conditions and the New Zealand dollar's gains had done little to dent prospects, said Bagrie.
Strong international commodity prices were insulating some exporters from the higher exchange rate, and petrol prices had fallen, migration was solid and tax cuts were believed to be coming soon.
In turn the improving economy was feeding businesses' hiring intentions. A net 11 per cent of businesses surveyed expected to add staff over the next year, a 21-month high.
"People have jobs. Cash registers are ringing. Profit expectations nudged up slightly in this month's survey, and when firms are hiring, people are encouraged to spend, and so the spiral remains in motion.
"In the absence of significant fasting between now and the January official cash rate review, the Reserve Bank will have little choice but to act on its repeated dietary warnings to the consumer and housing investor.
"I think the implicit view at the Reserve Bank is that it doesn't really want to go, but if inflation pressure is not receding it may find it has to."
Reserve Bank governor Alan Bollard this month said an interest rate increase "cannot be ruled out". It depended on consumer spending and the housing market.
He is due to review the cash rate - now 7.25 per cent - next month.
While an improvement in the economy might be welcome, the nature of the growth would be worrying the Reserve Bank, said Bagrie.
"It's borrow and spend growth, it's all domestic, the export sector is struggling, it just looks a little bit unsustainable.
"It's ironic but the Reserve Bank wants to see this fillip to growth to be transitory because we've got signs of reflation."
That showed up in the survey's inflation expectations and pricing intentions. Both were unchanged from last month, but were still at high levels, particularly in housing. A net 19 per cent of home-building firms expected conditions to improve.
