Still waiting for the fall

By MARK FRYER

Interest rates are coming down - the Reserve Bank says so.

Well, maybe. A little. Later.

On Thursday, as it does four times a year, the central bank issued its Monetary Policy Statement, setting out its view of the economy and giving us all a steer on where interest rates may go.

And once again the bank's head, Alan Bollard, left rates unchanged but said there was room for them to fall - but not yet.

That was bad news for homeowners hoping for a cheaper mortgage, but good news for anyone worried that rates on fixed interest investments could go even lower than they already are.

But what is the longer term picture for borrowers and investors? And what is keeping interest rates up when they have been falling overseas?

In the long term, lower rates still look like a reasonable proposition.

As the bank itself said: "Easing of interest rates in the future is more likely than a tightening."

Not everyone is convinced. A survey of 13 economists, carried out by Bloomberg News before the latest announcement, found that six were expecting the Reserve Bank to cut rates this year. The other seven expected rates to stay unchanged.

After this week's announcement, some observers still expect a cut, although they differ over how big it might be and when it will happen. June, said Deutsche Bank, September, said UBS Warburg. Not before mid-year or later, said the ANZ. Next year, said Salomon Smith Barney/Citibank.

And even then no one is expecting the Reserve Bank to make dramatic cuts. The biggest drop forecast in the economists' poll was 0.75 percentage points by the year's end.

If that translated directly into the mortgage market, it would mean floating rate loans at about 7.10 per cent - low, but not a record.

Trading on the futures market also suggests that short-term rates are likely to fall later in the year.

Any changes by the Reserve Bank are most likely to affect short-term interest rates, such as floating mortgages and rates on call accounts or short-term deposits. Longer-term deposits and fixed mortgages are more influenced by events overseas.

If you're a borrower with a floating rate loan, or a fixed-interest investor with a short-term focus, a rate cut looks reasonably likely, but probably not soon and probably not by much.

The Reserve Bank has left interest rates unchanged since last July. The next regular opportunity it will have to announce its intentions will be in seven weeks, on April 24, although it can move sooner if circumstances change.

What is keeping our interest rates up, when central banks in many other countries have been busy cutting theirs?

Blame it on the strength of the local economy, as measured in things such as house prices, car sales, employment, immigration and consumer confidence.

With the statistics looking so buoyant, the Reserve Bank fears that cutting interest rates would only push up inflation.

As made clear on Thursday, the bank wants to see stronger evidence that the economy is slowing before it starts pressing on the economic accelerator, by cutting rates.

Rates are already low by New Zealand standards. On the mortgage front, the big banks are offering floating rates of about 7.85 per cent, with one-year fixed loans around 6.75 per cent, and 6.95 per cent for three years.

And if you have, say, $10,000 to invest for a year, you'll be doing well to get much more than 5.5 per cent from one of the major banks.

But although rates like that may be lower than we're used to, they're not low by international standards. Fancy 4 per cent mortgage? Move to the US.

However, that's not such an appealing prospect for investors, considering that many US banks are paying less than 2 per cent on one-year term deposits.

What to do? As always, that question depends as much on your personal circumstances as it does on economics.

For borrowers, Tony Alexander, chief economist at the BNZ, suggests that this may be a good time to think about fixing.

"Taking a punt I'd say yes, those [long- term] interest rates are going to go down further," he says, but there's also a chance that they may start to rise again, particularly if any war in Iraq progresses favourably from the US point of view.

"You never know when that's going to happen - it could happen the day they start dropping the bombs," says Alexander.

"Maybe the rates go down a bit further but step back, recognise that they're already at pretty much record lows and get some fixing on here ... Whatever happens in the next couple of years, interest rates are going to be higher in a couple of years than they are at the moment."

At the ANZ, chief economist David Drage says the fixed/floating question depends largely on individual circumstances.

"But having said that, assuming those individual circumstances are taken into consideration, then certainly some of the shorter-term fixed rates offer extremely good value at the moment and provide scope for an immediate reduction in financing costs relative to floating."

Although longer-term interest rates could rise if there is a sudden rush of good economic news from abroad, says Drage, "the likelihood is that, looking at interest rates overall, they will remain, by New Zealand standards, relatively low over the year ahead".

Westpac also says that fixed rates may have a little further to fall, but points out that they are already low and borrowers who want to avoid the risk of a rise should look at fixing now.

For investors, Alexander suggests sticking with 90-day deposits for now and waiting for an increase, rather than locking in a longer-term investment at today's relatively low rates.

* To contact personal finance editor Mark Fryer write to: Weekend Herald, PO Box 32, Auckland.mark_fryer@nzherald.co.nzPh: (09) 373-6400 ext 8833. Fax: (09) 373-6423.