New Zealand central bank raises interest rates by 50 bps

The Reserve Bank of New Zealand increased its key interest rate by 50 basis points on Tuesday as its tight monetary policy began to slow down demand in the economy.

The latest increase brought up the Official Cash Rate to 4.75 percent, aligned with economists' forecasts. New Zealand's Official Cash Rate is expected to peak at 5.5 percent, with analysts predicting it will take another three months for the rate to hit that level.

The RBNZ expects that the weakness in the housing market will continue and that government spending will decline in the coming months. New Zealand is also projected to see lower export prices due to the deteriorating global economy.

The central bank maintains its forecast that the economy will enter a recession in the second quarter of the year before rebounding a little earlier next year. Consumer price growth will return to the central bank's target range of one to three percent by the third quarter of 2024, per RBNZ's prediction.

However, the bank revised its inflation forecast for the second half of this year, saying it will be "slightly firmer" than anticipated. The inflation rate in New Zealand for Q4 2022 was 7.2 percent, lower than the initial projection of 7.5 percent but still significantly higher than the target rate of two percent. Furthermore, the job market in New Zealand remained robust, with the unemployment rate as low as 3.4 percent.

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"We have come a long way and fast," RBNZ governor Adrian Orr said. "Now that we are confident we are in a restrictive position, we are afforded more time to reflect on whether we're seeing the outcomes we are hoping to see by now."

In the previous rate-setting meeting, the RBNZ raised the key rate by 75 basis points to keep up with global peers, which had increased their interest rates earlier last year. Although New Zealand downsized its rate hike, the increase was still among the largest hikes done by central banks recently. For instance, the U.S. Federal Reserve only raised the interest rates by 25 basis points at the beginning of this month.

Investors are pricing in another half of a percentage point hike by the RBNZ in the next rate-setting meeting. However, economists predict a more dovish rate policy by the central bank.

A research note published by Goldman Sachs economists estimated that the central bank would further ease its monetary tightening to a 25-basis-point increase at the April meeting before pausing. Regardless, Goldman Sachs warned that risks were "skewed to a more elongated hiking cycle."

Meanwhile, Bloomberg economist James McIntyre said the RBNZ would "reverse course" in late 2023 due to declining global and domestic economies.

Central bank to price in Cyclone Gabrielle's impact

Cyclone Gabrielle, which hit New Zealand last week, is expected to influence the central bank's monetary policy in the upcoming meeting. The cyclone significantly destroyed infrastructure across the upper North Island and displaced thousands of people. Among those affected are food-producing regions, indicating near-term shortages and price jumps in food.

Orr said it is "too early to accurately assess the monetary policy implications" of the cyclone because the scale of its destruction and economic disruption is "only now becoming evident."

Regardless, the Treasury Department said the reconstruction of homes and infrastructure in the aftermath of the disaster would increase demand for the capacity-constrained construction industry. This situation can eventually lead to nationwide inflation pressures, which will prompt the RBNZ to maintain interest rates higher for a longer period.