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Bollard holds OCR at 2.5%; points to steady but muted recovery


The Reserve Bank took the “no change” option this morning – the official cash rate remains at 2.5%, and there is unlikely to be any change until “around the middle of 2010.”
The economic recovery is broadly in line with t

Rob Hosking
Thu, 11 Mar 2010


The Reserve Bank took the “no change” option this morning – the official cash rate remains at 2.5%, and there is unlikely to be any change until “around the middle of 2010.”

The economic recovery is broadly in line with the central bank’s expectations – that is, it is more subdued than previous recoveries, Reserve Bank governor Alan Bollard said in announcing the decision.

“We estimate the New Zealand economy grew at a stronger pace in the December and March quarters than in the prior two quarters. Looking forward, while growth is expected to increase to about 4 % next year, this is subdued relative to previous recoveries.

“Trading partner activity has recovered a little faster than expected. Currently, growth is strongest in China, Australia, and emerging Asia, but is much more muted in other trading partners. At the same time, risks around the global outlook have increased, although not to the extreme levels seen at the height of the crisis.”

Inflation is at 2% and although there will be two one-off spikes in inflation this year due to government decisions – the hike in accident compensation levies from April and the implementation of the Emissions Trading Scheme from July – these will be offset by downward pressure on wage inflation from higher unemployment.

Helping Dr Bollard on the interest rate front is higher funding costs for banks. This is partly driven by the Reserve Bank’s own prudential funding regime, which is being implemented over the next two years, but also by higher government borrowing by overseas governments ‘crowding out’ the corporate market and keeping the cost of longer term wholesale funding high.

That is likely to mean the Reserve Bank does not have to move the official cash rate so quickly, or so often, as it has in the past.

“Higher bank funding costs have reduced the level of stimulus that would normally be associated with any given level of the OCR.

“We expect these costs to persist over the projection reducing the extent of future increases in the OCR.”

The comparatively high dollar, on a trade weighted index (TWI) basis is also expected to keep tradable inflation down until later in the year. However the dollar is expected to decline on a TWI basis from next year as growth picks up among New Zealand’s main trading partners.

Dr Bollard also delivered what is now his standard nudge in the ribs to the government, with a warning that fiscal policy needs to support monetary policy.

“Fiscal consolidation would also help reduce the work that monetary policy might otherwise need to do,” he said.

Taking out the jargon, that means that Finance Minister Bill English does not keep a tight rein on his spending ministers, the resulting increase in spending will fuel inflation and force Dr Bollard to hike interest rates sooner, and higher, than he now plans to do.

The current projections, based on the government’s plans outlined in December’s Half Yearly Economic and Fiscal Update, are for fiscal policy to be “mildly contractionary” from 2011.

That will be hard for ministers to maintain in a normal year, but 2011 is an election year and the Reserve Bank appears justifiably nervous that the government might forget prudence in the run up to the polls.


 

Rob Hosking
Thu, 11 Mar 2010
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Bollard holds OCR at 2.5%; points to steady but muted recovery
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