OCR on hold but Reserve Bank nervous about immigration’s effect on inflation

Wednesday, 29 November 2023

The Reserve Bank has held the official cash rate unchanged at 5.5%, with governor Adrian Orr saying his first meeting with the new government had a “constructive vibe”.

The bank made minor tweaks to its forecast for where the official cash rate (OCR) may be heading over the next few years that slightly increase the possibility of one further rate rise next year.

It voiced stronger concerns that record immigration could prove a spanner in the works bringing down inflation.

However, its forecast still suggests cuts to interest rates from their current level from around the middle of 2025.

Watch Orr discuss his decision in the livestream on The Post at 3pm.

Orr said he and fellow members of the Reserve Bank had a routine meeting with Prime Minister Christopher Luxon and Finance Minister Nicola Willis on Tuesday.

“The vibe in the room was incredibly constructive and highly focused on the job in hand, and the ‘number one’ job in hand for us is to reduce inflation.”

Orr said in comments accompanying its OCR decision that interest rates were restricting spending in the economy and inflation was declining but remained too high, and that the bank’s monetary policy committee remained wary of ongoing inflationary pressures.

Demand growth in the economy had eased this year, but by less than anticipated in part due to strong population growth and the official cash rate would need to stay “restrictive” so inflation returned to the 1% to 3% target range, he said.

The bank’s comments on record immigration appeared notably more hawkish than those it made previously when it tended to paint immigration as a mixed bag for inflation.

“Strong population growth has contributed to an increase in housing rents,” its monetary policy committee said.

“Rent increases, and any increases in construction costs in response to greater housing requirements, affect inflation directly, as rental prices and construction costs are accounted for in the consumer price index.”

While the balance of risks for inflation, output and employment remained “broadly similar” to those when it released its previous monetary policy statement in August, “some of the short-term upside risks to activity appear to have eventuated”, it said.

The New Zealand dollar climbed about US 0.5 cents to US62c in the wake of the statement.

The bank made clear that while the new government’s policy programme would have “implications for economic activity and inflation”, it would not be assessing those until its policies were “formally incorporated into the Treasury’s official forecasts”.

“We can’t talk about hypotheticals,” Orr said. The Government’s policies had both revenue and spending measures and it was too early to know how the bank might need to react, he said.

Fears Orr might raise the official cash rate (OCR) from its current level of 5.5% had almost evaporated over the past couple of months as more economic data has shown the labour market and inflation cooling.

Capital Economics economist Marcel Thieliant said that while the Reserve Bank had signalled that it could hike rates further, it still believed the tightening cycle was now over and that the bank’s next move would be a rate cut in the second half of next year.

The OCR is an important factor in determining retail interest rates, including mortgage rates and interest payments paid by banks to savers.

However, they are also influenced by interest rates overseas where there were some positive developments for borrowers overnight.

Comments from the United States Federal Reserve suggested it was more confident interest rates there had peaked.

The Government has promised to refocus the central bank’s mandate solely on inflation and to consider setting a specific time frame for the bank to achieve its target of bringing inflation back down under 3%.

Orr said that had not been discussed at his meeting with ministers on Tuesday.

“We have not been consulted on the remit change, but we're fully aware of the Government's stated intention to move from a dual mandate to a single mandate, so we we will be consulted in due course.”

BNZ research head Stephen Toplis said he had mixed views on the latter option.

“The Reserve Bank usually sets monetary policy to achieve its inflation target within 18 to 24 months and almost always has a forecast annual inflation outcome of very close to 2% by the end of its projected horizon, which is around three years.

“Make the target within three years and nothing should change,” he said.