What the Reserve Bank said

The Reserve Bank today increased the Official Cash Rate (OCR) by 25 basis points to 3.25 percent.

New Zealand’s economic expansion has considerable momentum, with GDP estimated to have grown by around 4 percent in the year to June. Global financial conditions remain very accommodative and are reflected in low long-term interest rates and narrow risk spreads. Economic growth among New Zealand’s trading partners is gradually improving and global inflation remains low.

Prices for New Zealand’s export commodities remain historically high, but their recent falls will reduce farm incomes over the coming year. A continued acceleration in construction in Canterbury, and more broadly, is supporting growth, together with strong net immigration flows that are adding to housing and household demand. Business and consumer confidence remains buoyant, as do businesses’ reported intentions to invest and to hire.

While house price inflation remains high, the housing market has moderated since late last year when restrictions were applied to high loan-to-value ratio mortgage lending and when mortgage interest rates began rising. Fiscal consolidation continues to moderate demand growth, though by less than previously assumed. The exchange rate has not yet adjusted to weakening commodity prices, but is expected to do so. The Bank does not believe the exchange rate is sustainable at current levels.

Headline inflation remains moderate and tradables inflation is expected to be low for some time. However, above-trend growth has been absorbing spare capacity and adding pressure to non-tradables inflation. These pressures are particularly evident in construction cost increases. Nevertheless, overall wage inflation remains moderate, reflecting recent low headline inflation, increased labour force participation and strong net immigration.

Inflationary pressures are expected to increase. In this environment, it is important that inflation expectations remain contained and that interest rates return to a more neutral level. The speed and extent to which the OCR will need to rise will depend on future economic and financial data, and its implications for inflationary pressures.

By increasing the OCR as needed to keep future average inflation near the 2 percent target mid-point, the Bank is seeking to ensure that the economic expansion can be sustained.