Low OCR but other rates higher, RBNZ repeats

Tightening monetary policy considerably to tackle housing booms is a thing of the past for the Reserve Bank of New Zealand as it now expects its policy to have a sharper impact in the post-crisis environment.

This essentially means that the impact of a rise in the official cash rate on interest rates will be far greater than it has been so far, thus allowing the RBNZ to have a comparatively lower OCR and avoid pressure on the NZ currency through carry trade activity.

The views were expressed in a speech by deputy governor, Grant Spencer.
Among the factors that will contribute to this is the positive yield curve that New Zealand now has, with the result that more borrowers are now on floating or short-term fixed rates, and these rates are likely to be quickly affected by a tighter monetary policy. In short, borrowers will no longer be able to "slide out the yield curve" to avoid the impact of a policy tightening, Spencer said.

Lending rates will also be under pressure as cost of funding for banks remains high because they compete for stable sources of funding like customer deposits.  This means lending rates will be higher for any given level of OCR.

Pressure on lending rates will also come from the banks' requirement to meet the Core Funding Ratio target, as that will push up their cost of funds and force them to hike lending rates. "By impacting customer lending rates rather than wholesale rates, the CFR should also help to moderate the flow-on effect of monetary policy adjustments to the exchange rate," Spencer said.

Real lending rates will also be higher for borrowers as their expectation of capital gains through asset price appreciation decreases, and this will have a greater deterring effect on credit demand.