Rates policy lacking punch in NZ
The efficacy of the Reserve Bank of New Zealand's monetary policy and its low official cash rate of 2.5 per cent is looking dubious, with the policy of maintaining a low cash rate failing both to drag lending rates lower and to trim the exchange rate.
This ineffectiveness means the RBNZ had no choice but to cut its GDP growth forecasts further. The central bank is now expecting the average annual GDP growth to contract to a low of 2.4 per cent later this year before recovering to just below four per cent in late 2011. It had previously forecast two per cent as the trough.
In the bank's quarterly Monetary Policy Statement, published yesterday, the RBNZ cited higher dollar, and weaker near-term trading growth of its key partners as the reasons for the downgrade.
"In growth terms, this is both a deeper trough and slower recovery than occurred during the early 1990s recession," the RBNZ noted.
The strong dollar was, indeed, the main theme of the policy statement as the RBNZ, for the first time, spoke explicitly of the exchange rate and the risks to growth prospects from a stronger dollar.
"The recent rise in the New Zealand dollar creates an unhelpful tension with our projections. A stronger dollar at a time of weak global growth risks delaying or even reversing the projected increase in exports, putting the sustainability of recovery at risk," the RBNZ said.
But aside from warning, the central bank did nothing. It left the cash rate unchanged at 2.5 per cent and ensured reiteration of its soft policy stance, indicating that's only how far it could go.
Indeed that's the farthest the RBNZ seems in a position to go. Governor Alan Bollard acknowledged that a cut in the cash rate would not have helped in the weakening of the dollar as it's not NZ's higher interest rate that's driving the currency higher. A still stronger tool of direct intervention would not help either, he said.
The central bank has therefore accepted the higher dollar is here to stay and built the current levels into its forecast. "We assume the New Zealand dollar TWI (trade-weighted index) will hold its current strength over the next few months, before steady depreciation occurs through the rest of the project."
The dollar TWI was at 60.1 on June 11, up from 53.8 in March.
The RBNZ formally maintains optimism that banks will reduce lending rates, noting in its policy assessment that it expected the effects of the low cash rate to pass through to more borrowers over coming quarters as existing fixed-rate mortgages come up for re-pricing.
"Although rising longer-term interest rates overseas are placing upward pressure on longer-term lending rates here, there is room for further reductions in shorter-term lending rates," the RBNZ said.
The cut in the cash rate last month, by 50 basis points, resulted in few cuts in lending rates by banks. Deposit rates are often much higher than the cash rate.