Reserve Bank keeps blinkers on inflation, raising OCR to 2.5% – Stuff

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Reserve Bank governor Adrian Orr faces a difficult balancing act reining back inflation in the face of evaporating business and consumer confidence, economists have been pointing out.

The Reserve Bank has raised the official cash rate by 50 basis points to 2.5%, sticking closely to the accelerated track that it mapped out in May to get on top of inflation.

It made a nod to the rising concerns that the economy could be headed for a significant downturn, saying there were emerging medium-term downside risks to economic activity.

But the overall tone of the Reserve Banks commentary appeared little changed from its hawkish monetary policy statement in May.

ASB said the Reserve Bank had not shifted its tone much in its written comments, barring the odd shift in wording.

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While it acknowledged the downside risks facing the growth outlook, it is continuing to roll out the tough-talking language about cooling demand and getting inflation under control, ASB said in a research note.

ANZ also said there had been no discernible change to the Reserve Banks language or tone.

The Reserve Bank said there was a near-term upside risk to consumer price inflation, suggesting inflation could rise higher than it had been forecasting.

It introduced its statement by saying it was resolute in its commitment to ensure consumer price inflation returns to within the 1% to 3% target range and that it remained appropriate to continue to tighten monetary conditions at pace.

The increase is the third time this year that the central bank has raised the OCR by a 0.5% increment, with its current forecasts projecting that the rate is likely to peak at 4% during the second half of next year.

The double hike takes the interest rate to the highest it has been since January 2016 and was universally expected by bank economists.

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They signalled ahead of the 2pm statement that they would be closely watching the Reserve Banks commentary for any subtle change in tone about the likelihood of a recession.

Concerns have grown in recent weeks that the Reserve Bank could end up overcooking its fight against inflation if it does not soften its trajectory of raising the OCR to 4% next year, though banks were not necessarily expecting the Reserve Bank to publicly acknowledge that risk yet.

A coincidence meant Wednesdays monetary policy review came a few days ahead of inflation data from Stats NZ on Monday that will show whether annual inflation continued to rise in the three months to the end of June or could be coming down from the 31-year high of 6.9% recorded in the March quarter.

Capital Economics economist Marcel Thieliant said the reference the Reserve Bank made to emerging medium-term downside risks to the economy reinforced its view that the OCR was not likely to peak above 3.5%.

The New Zealand dollar dipped by about a fifth of a US cent to trade just under US61.1c within 30 minutes of the announcement, suggesting traders may initially have attached some significance to that observation from the Reserve Bank.

But it later regained almost all of that ground.

ANZ noted that the two-year swap rate also edged down 5bp.

But it put that down to relief that the Reserve Bank simply held the line and didn't ratchet up their hawkish rhetoric.

The Reserve Bank said in its commentary that the pace of global economic growth was slowing.

The broad-based tightening in global monetary and financial conditions is acting to reduce spending growth.

Asset prices have also declined due to higher interest rates and a weaker earnings outlook, it said.

But it said that domestic spending in New Zealand remained supported by high employment levels, resilient household balance sheets in aggregate, continued fiscal support, and strong terms of trade.

A reduction in Covid-related restrictions was enabling increased demand, it also said.

Labour and resource scarcity are also contributing to upward price pressures which are currently exacerbated by seasonal illness, a resurgence in Covid cases and a net outflow of labour abroad.

In these circumstances, spending and investment demand continues to outstrip supply capacity, with a broad range of indicators highlighting pervasive inflation pressures.

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Reserve Bank keeps blinkers on inflation, raising OCR to 2.5% - Stuff