New Zealand Cuts Interest Rates to Record Low 2%

Reserve Bank of New Zealand Governor Graeme Wheeler News Conference
Graeme Wheeler, governor of the Reserve Bank of New Zealand, speaks during a news conference at the central bank's headquarters in Wellington, New Zealand, on Thursday, June 11, 2015. New Zealand's central bank lowered interest rates for the first time in four years to boost inflation as growth slows, setting aside the danger of fueling an Auckland housing boom. Photographer: Mark Coote/Bloomberg via Getty Images
Mark Coote/Bloomberg via Getty Images/File

New Zealand has joined Australia in cutting interest rates to record lows to stave off deflation and to restrain rising currencies, but a rapid descent to zero rates is bedeviled by solid economic growth and hot housing markets.

The Reserve Bank of New Zealand (RBNZ) cut rates by 25 basis points to 2% on Thursday while Australia cut rates to an all-time low of 1.5% early this month.

The RBNZ’s challenges became immediately apparent after the central bank decision, with investors lifting the local dollar to a one-year peak despite the easing and threatening to depress both exports and inflation in New Zealand’s small open economy with a population of 4.7 million.

The Australian dollar also proved to be extremely resilient after the RBA decision. In both cases, markets wanted more and were disappointed.

See also: Australia Cuts Interest Rates to Record Low, Asian Shares React

“Central banks are ‘reluctant cutters’ as they head towards lower bounds,” said Jarrod Kerr, a senior interest rate strategist at Commonwealth Bank of Australia.

“Frustrations over currency strength and inflation expectations eventually overpower policymakers because it is a global theme and a theme the RBNZ cannot escape,” said Kerr, predicting rates might have to halve to 1% in time.

New Zealand and Australia, however, are global outliers given the negative interest rates operating in countries that represent a quarter of world output.

In such an environment, the RBNZ had to ease just to stop its currency from rising and further depressing inflation, said Governor Wheeler.

The battle against excessive currency strength, however, is not going well. On Thursday investors pushed the kiwi dollar up over 1% to a high of $0.7351, underlining just how daunting a challenge the RBNZ faces.

Consumer price inflation is running at just 0.4%, well below the RBNZ’s target range of 1% to 3%.

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Wheeler said the bank would do what was necessary to get inflation back in the target range and left the door wide open for additional stimulus.

“Our current projections and assumptions indicate that further policy easing will be required to ensure future inflation settles near the middle of the target range,” he said in the bank’s August policy statement.

Assistant Governor John McDermott told Reuters that one more rate cut was likely with another possible. “The market has figured out appropriately that we have a big chance in November to assess where we’ve got to,” McDermott added.

However, Thursday’s 25 basis point cut from the Reserve Bank of New Zealand (RBNZ) looked weak compared with the Bank of England’s 50 basis point cut and 100 billion pound fund to ensure the cut reaches households.

See also: The Bank of England Just Cut Interest Rates for the First Time Since 2009

Both Governor Wheeler and RBA Governor Glenn Stevens, however, have expressed their reluctance to cut hard.

Earlier this week Stevens said there were limits to what monetary stimulus could achieve, including “dialing up” economic growth or pushing inflation higher in short order .

In particular, Stevens downplayed concerns the RBA might take excessive policy measures to push inflation back into its 2% to 3% target range “in short order.”

Wheeler was also clear.

“You have to think about what life is like in an economy that is likely to grow at around 3.5% if you suddenly race to the bottom with interest rates,” he told a parliamentary commission.

In New Zealand, booming housing prices, the second fastest-growing in the world after Qatar, according to the International Monetary Fund, add to the pressure.

“Just think what the housing market would be doing if we race to the bottom and use up all our capacity on monetary policy,” he added.

New Zealand’s central bank recently announced new macro- prudential tools aimed at curbing high-velocity house price growth.

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