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Cablegate: New Zealand Slashes Key Interest Rate

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RR RUEHCHI RUEHFK RUEHHM RUEHKSO RUEHNAG RUEHPB RUEHRN
DE RUEHWL #0404/01 3390402
ZNR UUUUU ZZH
R 040402Z DEC 08
FM AMEMBASSY WELLINGTON
TO RUEHC/SECSTATE WASHDC 5563
INFO RUEHNZ/AMCONSUL AUCKLAND 1805
RUEHBY/AMEMBASSY CANBERRA 5340
RUEHDN/AMCONSUL SYDNEY 0771
RHHMUNA/CDR USPACOM HONOLULU HI
RUEHZU/ASIAN PACIFIC ECONOMIC COOPERATION
RUEHSS/OECD POSTS COLLECTIVE
RUCPDOC/USDOC WASHDC 0269
RUEATRS/DEPT OF TREASURY WASHDC
RUEHRC/DEPT OF AGRICULTURE WASHDC

UNCLAS SECTION 01 OF 02 WELLINGTON 000404

SIPDIS

STATE FOR EAP/ANP, EAP/EP AND EEB, STATE PASS TO USTR, PACOM FOR
J01E/J2/J233/J5/SJFHQ

E.O. 12958: N/A
TAGS: ECON ETRD EFIN APEC PGOV PREL NZ
SUBJECT: NEW ZEALAND SLASHES KEY INTEREST RATE

Ref: Wellington 357

WELLINGTON 00000404 001.2 OF 002


1. (U) Summary: On December 4, New Zealand's Reserve Bank (RBNZ)
lowered the official interest rate from 6.5 percent to 5 percent,
paralleling a move by Australia earlier in the week. The 1.5
percent reduction brings the rate to its lowest level for the past
five years marking a 3.25 percent cumulative reduction since July
2008. Although the annual inflation rate hit 5.1 percent in
September, the RBNZ expects year-on-year inflation to fall back to
within the target band of 1 to 3 percent by mid-2009. While
generally satisfied with the Bank's action today, the business
community remains cautious noting that the benefits of the rate
reduction will not be immediately felt in certain key sectors like
the real estate market. Some are predicting the OCR to bottom out
at 3.25 percent around the middle of next year. End Summary.

RBNZ slashes Official Interest Rate
-----------------------------------

2. (U) On December 4, New Zealand's Reserve Bank (RBNZ) lowered the
official interest rate (Official Cash Rate - OCR) from 6.5 percent
to 5 percent. The 1.5 percent reduction, the largest since the OCR
was established in 1999, brings New Zealand's OCR to its lowest
level in the past five years. This leaves the OCR close to the
Australian rate of 4.25 percent, a crucial fact for New Zealand
businesses operating in these two closely linked economies. Reserve
Bank Governor, Dr. Alan Bollard said ongoing financial market
turmoil and a marked deterioration in the outlook for global growth
played a significant role in today's decision. He noted that
economic activity with New Zealand's trading partners is expected to
contract or grow slowly over the next few quarters which in turn has
caused economic activity within New Zealand to be constrained more
than anticipated since the last rate cut in October (see Reftel).

3. (U) RBNZ's action today marks a 3.25 percent cumulative
reduction in the OCR since July 2008 with the Bank hoping its
expansionary monetary policy, together with the depreciation in the
Kiwi dollar (trading today at US 0.53c down from a high of US 0.80c)
will provide the needed stimulus for domestic demand and create the
conditions for a rebound in growth as global conditions improve.
(Note: The newly elected National led government will open the next
Parliament on December 8 and is expected to announce the details of
its fiscal stimulus package which is expected to include additional
tax cuts meant to complement the actions taken today by the RBNZ.
End Note.).

4. (U) Although the annual inflation rate hit 5.1 percent in the
September '08 quarter, due largely to high gas, utility rates and
food prices, Dr. Bollard expects year-on-year inflation to fall back
to within the Bank's target band of 1 to 3 percent by mid-2009.
Bollard said, "...(because) growth had been weaker than projected in
October, inflationary pressure has subsided and GDP is now projected
to trough at negative 0.2 percent in the middle of 2009 then
expected to rise to 1.3 percent in 2010." Meanwhile, unemployment
is expected to peak at 6 percent by the end of 2009), marking a
dramatic rise from a low of 3.3 percent in 2007 although expected to
be lower than during previous downturns (for example 10.4 percent in
1992).

Not Enough for Business Community
---------------------------------

5. (U) A variety of commentators from the business community have
begun to react to today's record cut in the OCR. JPMorgan economist
Helen Kevans is forecasting inflation to fall below the Reserve
Bank's target range of 1-3 percent before the end of next year,
which points to the need for still more assertive stimulus. "GDP
will decline for 'at least' another three quarters says Ms Kevans,
before rebounding from just 0.3 percent in 2009 to 2.8 percent in
2010. JPMorgan expects the OCR to bottom out at 3.25 percent around
the middle of next year.

6. (U) Bayleys' (large commercial real estate firm) managing
director, Mike Bayley, says it could be some time before the full
effects of the decrease flow through to the property sector, because
more than 80% of New Zealand home mortgages are on fixed terms.
"Interest repayment levels are just one consideration in the
decision-making process involved with buying residential property -
alongside such other factors as genera economic confidence,
household debt levels, business forecasts and job security," says Mr
Bayley. "Lowering the OCR is certainly the first step in redressing

WELLINGTON 00000404 002.2 OF 002


what has been a declining property market in both sales volume and
prices throughout 2008, however these other factors, along with
raising immigration levels, need to be stabilized before we will see
any major correction in property prices."

Expect More Cuts
----------------

7. (U) The RBNZ is leaving the door open to further reduction in
the OCR. The Bank's Monetary Policy Statement (MPS) predicts that
"further movements in the OCR will be assessed against emerging
developments in the global and domestic economies and the responses
to policy changes already in place."

MCCORMICK

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