NZ’s tepid productivity has driven down ‘neutral’ interest rates, says RBNZ

Neutral interest rates in New Zealand, the theoretical level of borrowing costs that neither stimulates nor restricts the economy, have fallen in recent years and the nation's weak productivity growth is the most likely culprit, the central bank says.

Reserve Bank of New Zealand assistant governor Dr John McDermott told a business meeting in Auckland that the bank's assessments suggest a 90-day bank bill rate of 4.5 percent is "neutral" for the economy, though with about 50 basis points of wiggle room on each side. That's down from between 5.5 percent and 6.25 percent in 2003.

"The evidence and research we have accumulated does point to neutral interest rates being lower than in previous cycles," McDermott said. Weaker productivity growth "looks likely to be the main explanation for a fall in New Zealand's neutral rates."

An assessment of neutral isn't an absolute, nor is it a signal of how much interest rates may need to move across the economic cycle, he said. Such a level would mean the economy was growing at a pace that ensured no under- or over-utilised resources in aggregate, known as a zero output gap, and inflation was close to the midpoint of the bank's 1 percent-to-3 percent target band.

The Reserve Bank also makes an assessment of the neutral rate for households and businesses, which it has also reduced. But that decline is less, he says, because there has been a "significant increase in the spread between the two since the global financial crisis."

The bank kept the official cash rate unchanged at 2.5 percent last month, a level it regards as stimulatory. Today, McDermott said the bank expected demand in the economy will be boosted by further reconstruction in Canterbury, high export commodity prices, momentum in the housing market and low interest rates.

That would be partly offset by fiscal consolidation, continued strength in the New Zealand dollar, and a starting point of very low core inflation, he said. "Reflecting the balance of these forces, the Reserve Bank believes that interest rate settings should remain stimulatory for some time yet."

(BusinessDesk)