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Inflation is back within the target range, but can the Reserve Bank take all the credit?
Tomorrow, Q3 CPI data will be released, and economists are expecting inflation to slow to 2.3%, the first time it will be back in the target band of 1-3% since Q1 2021. With inflation rates showing signs of relief, debate has ensued over how much credit the RBNZ can claim for taming inflation compared with how much can be attributed to external factors. The Reserve Bank’s monetary policy actions have undoubtedly played a significant role, but global disinflation trends have also contributed, complicating the narrative around the central bank’s influence.
Global Disinflation and Its Ripple Effect in New Zealand
Over the past year, global inflation has been on a downward trajectory, easing from the record highs seen in 2022. A combination of factors has driven this global disinflation, including the stabilisation of supply chains and cooling labour markets. World Bank data asserts that global inflation fell from a peak of 9.4% in July 2022 to 2.9% by mid-2024. Much of this progress is attributed to a 40% drop in commodity prices between mid-2022 and mid-2023, which significantly reduced price pressures on imported goods. Supply chain disruptions, which had spiked costs in key sectors during the pandemic, also began to ease.
In New Zealand, these global trends have directly influenced inflation rates. As a small, open economy reliant on international trade, New Zealand is particularly sensitive to global price movements. Lower import costs have contributed to easing inflation domestically, independent of the RBNZ’s policy actions. This is evident in sectors like fuel, where international price declines helped offset rising costs in other areas like food and housing. Economists have acknowledged that the progress seen in global disinflation likely softened inflation pressures in New Zealand, reducing the load on the RBNZ’s monetary policies.
RBNZ’s Monetary Policy: Aggressive Tightening, Now Moderating
The RBNZ’s most notable policy tool in the inflation fight has been its aggressive hikes to the Official Cash Rate (OCR). Starting in 2021, the RBNZ significantly increased the OCR from a pandemic low of 0.25% to a high of 5.50% by July 2024. This rapid monetary tightening was aimed at curbing surging inflation, which hit a 34-year high of 7.3% in mid-2022. The hikes were intended to cool the economy by reducing consumer demand and business investment, thus bringing inflation back within the RBNZ’s target range of 1-3%.
In recent months, however, the RBNZ has begun to ease its monetary stance. Last week (on October 9, 2024), the bank cut the OCR by 50 basis points to 4.75%. The decision came as inflation slowed to within the RBNZ’s target band, with the bank’s Monetary Policy Committee (MPC) assessing that price pressures had diminished enough to warrant a reduction in restraint. According to the MPC, domestic inflation has cooled in line with global trends, and the New Zealand economy is now experiencing excess capacity, which is dampening further price increases.
Despite these positive signs, some analysts remain cautious. ANZ economists Miles Workman and Henry Russell noted that while global disinflation has provided a helpful tailwind, New Zealand’s non-tradables inflation—reflecting domestically driven costs such as rents and services—remains persistently high. This suggests that while the RBNZ’s efforts have contributed to reducing inflation, external factors may have played a larger role in bringing headline inflation down.
Challenges in Isolating Domestic Policy Impact
A key challenge in assessing the RBNZ’s influence over inflation is the interconnectedness of the global economy. The New Zealand Institute of Economic Research (NZIER) Shadow Board noted in July that domestic monetary tightening had cooled economic activity, but global disinflationary forces were likely responsible for a significant part of the inflation reduction. The Shadow Board recommended keeping the OCR at 5.50% at the time, reflecting concerns that reducing it prematurely might not account for domestic inflation pressures that are slower to respond to policy changes.
The time lag between OCR adjustments and their full impact on the economy further complicates the picture. Typically, changes to the OCR take more than a year to fully influence inflation, meaning that the effects of earlier hikes may still be playing out. Additionally, geopolitical factors—such as the war in Ukraine and tensions in the Middle East—have injected volatility into commodity markets, creating unpredictable external shocks that can undermine domestic policy efforts.
Persistent Inflationary Risks Remain
Despite the recent progress in curbing inflation, both global and domestic risks could derail disinflation efforts. Globally, inflation is projected to ease to 6.6% in 2024, according to Euromonitor International, and to 3.9% in 2025. However, geopolitical tensions, particularly in energy markets, could push prices higher. The World Bank warns that any escalation in conflicts, especially in oil-producing regions, could drive up global oil prices by 10%, adding as much as 0.35 percentage points to global inflation within a year.
Domestically, wage growth and inflation in the services sector remain stubbornly high. As Kiwibank chief economist Jarrod Kerr noted, while the RBNZ can celebrate bringing inflation back within its target range, non-tradables inflation remains a “frustration.” This persistent inflation in domestically sourced goods and services poses a challenge, as it reflects deeper structural issues in the economy with labour market rigidity and housing shortages.
Additionally, the risk of overshooting on disinflation remains. Some economists have warned that the RBNZ’s recent OCR cuts could lead to inflation falling too far below target, particularly if global economic conditions deteriorate. The MPC acknowledged this in its October 2024 statement, noting that while the OCR remains “restrictive,” the economy’s weak momentum and excess capacity could lead to further cuts in the coming year.
Conclusion?
It’s a delicate balancing act between controlling inflation and supporting economic growth, and it is clear that global disinflationary trends have played a crucial role in the progress we’ve made so far. While the Reserve Bank’s aggressive monetary tightening helped to cool domestic inflation, external factors such as falling commodity prices and easing supply chain pressures have significantly contributed to the reduction in price pressures.
The recent easing of the OCR signals confidence in the inflation outlook, but persistent domestic inflation risks, particularly in the non-tradables sector, require ongoing attention.