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The RBNZ Observer: Expect another 25bp hike next week

The RBNZ Observer: Expect another 25bp hike next week

- Timely indicators continue to suggest that New Zealand's economy is growing at an above trend pace

- Despite recent falls in dairy prices and signs of some cooling in the housing market the overall momentum in growth remains strong

- We expect another 25bp hike to 3.25% next week, but for the RBNZ's forward guidance to suggest fewer future hikes may be needed than they previously indicated

Managing a boom
New Zealand’s economy is booming. Growth has been supported by three key factors, exports of dairy products to a rapidly growing Chinese middle class, the post-earthquake rebuild of the Canterbury region and impact of low interest rates on the local housing market. As a result of New Zealand’s relative outperformance growth is now also being supported by very strong net inward migration. Foreigners are moving to New Zealand in droves and Kiwis are both heading home and staying at home more than any time in over a decade. Strong population growth is set to continue to support New Zealand’s boom.

To manage this, the RBNZ has already begun the process of lifting interest rates back towards more normal levels. The cash rate has already been increased by 50bp this year.

There are some very early signs that higher interest rates, combined with the central bank’s adjustments to its new macroprudential settings, are taking some of the heat out of the housing market. At the same time, dairy prices have fallen back a bit in the past couple of months, from near record high levels. But these are minor setbacks in the grand scheme. Business and consumer sentiment surveys suggest that growth is still running at a well above trend pace. More tightening is likely to be needed.

We expect the RBNZ to lift the cash rate by a further 25bp next week to 3.25%. At the same time though, we also expect that the modest pullback in the economic indicators will see the central lower path for the 90 day bank bill a touch. This does not involve a shift in our forecast, we are sticking by our long held view that the cash rate will be 3.50% at end 2014 and 4.50% at end 2015.

The NZD has fallen recently, broadly in line with the decline in dairy prices. From the central bank’s perspective the decline in the currency will be welcome news, though they are still likely to repeat that they expect it to fall further from here.

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