The Reserve Bank of New Zealand announced at 2pm today that it will lower the Official Cash Rate to 5.25%.
The Monetary Policy Committee met today to discuss recent economic and financial developments and their implications for monetary policy in New Zealand, and to review the current OCR. To read a full summary of the meeting, click here.
Here are the key takeaways:
Economic and Financial Overview
The Committee noted a more pronounced and broad-based weakening in domestic economic activity since the July Monetary Policy Review.
Headline inflation has declined, and business inflation expectations have stabilised around 2% for medium- and longer-term horizons.
Global growth remains below trend, with China showing weaker-than-expected growth due to a depressed property market and weak consumer demand. US growth is firm but shows signs of emerging weakness. Global inflation is declining but remains elevated in some service sectors.
Monetary Policy Considerations
The Committee agreed that monetary policy restraint can begin to ease, with the pace of loosening dependent on continued adaptation to lower inflation and well-anchored inflation expectations.
New Zealand’s economic activity and inflation indicators are now similar to countries where central banks have started cutting policy rates.
The output gap is more negative than previously assumed, indicating increased spare capacity in the economy.
Domestic Economic Weakness
Potential contributors to economic weakness include restrictive monetary policy, tighter fiscal policy, and falling net migration. Methodological changes by Statistics New Zealand add uncertainty to the economic outlook.
Employment growth has slowed, with declines in private sector jobs, hours worked, and wage growth. Government spending restraint and public sector job losses are expected to further weaken employment growth.
Government expenditure is declining, with uncertain impacts from potential tax cuts on consumption.
Financial Conditions
Weaker global economic data has led to lower policy rate expectations, reducing sovereign yields in most advanced economies.
Domestic financial conditions have loosened, with lower wholesale and borrowing rates and some depreciation in the nominal exchange rate. Credit demand remains weak due to high interest rates, a sluggish housing market, and low investment intentions.
Elevated debt servicing costs and weak economic conditions are causing financial stress for some households and businesses, but banks remain resilient with tightened lending standards and increased loan loss provisions.
Inflation and Risks
Inflation fell in the June quarter, primarily due to lower tradable inflation. Business inflation expectations have returned to around 2%, and all core inflation measures have declined.
Risks include uncertainty in price-setting behaviour and potential global factors like geopolitical tensions, trade policy, and higher import prices due to global reshoring and shipping disruptions.
A weaker global economy, especially in China, could reduce demand for New Zealand exports and lead to lower import prices. Domestic inflation could fall faster if wage- and price-setting behaviour adjusts more rapidly to a low-inflation environment.
Policy Decision
The Committee reached a consensus to reduce the OCR by 25 basis points to 5.25%, reflecting confidence that inflation will return to target and growing excess capacity will support further declines in domestic inflation.
The Committee agreed that while there is scope to temper monetary policy restraint, it must remain restrictive for some time to ensure ongoing dissipation of domestic inflationary pressures. The pace of easing will depend on continued adaptation to a low-inflation environment and stable inflation expectations.
What is the OCR?
The OCR, or “Official Cash Rate,” is an interest rate set by the central bank —in our case, the Reserve Bank of New Zealand (RBNZ)—for overnight transactions between banks. It serves as a benchmark for the interest rates that banks charge each other for overnight loans.
How does the OCR work?
The OCR is a monetary policy tool used to manage inflation and economic activity. By raising the OCR, the central bank can cool down an overheating economy and reduce inflation by making borrowing more expensive, which reduces spending. Lowering the OCR can stimulate economic activity by making borrowing cheaper, encouraging spending and investment.
What is the OCR’s impact on banks and consumers?
When the OCR is adjusted, it influences the interest rates that banks offer on loans and deposits. If the OCR is increased, borrowing becomes more expensive for banks, which typically pass these costs on to consumers through higher interest rates on loans and mortgages. Conversely, a lower OCR makes borrowing cheaper, potentially leading to lower interest rates for consumers.
How does the OCR affect the economy?
Adjusting the OCR’s primary goals are inflation control and price stability. The RBNZ aims to keep inflation within a target range of 1% to 3%. Adjusting the OCR helps align economic activity with this target by influencing consumer and business spending.
Changes in the OCR also directly affect interest rates for mortgages, personal loans, and savings accounts. When the OCR rises, interest rates on these products typically increase, making loans more expensive and savings more attractive.
Furthermore, by influencing borrowing costs, the OCR indirectly affects consumer spending and investment. Higher interest rates can reduce spending and investment, slowing down economic growth, while lower rates can have the opposite effect.
What can we take away from today’s OCR announcement?
The decision today to cut the OCR comes amid signs that inflation is slowing. The annual inflation rate has decreased to 3.3% in the second quarter of 2024, down from 4% in the first quarter. This aligns with the RBNZ’s target and suggests that previous measures to control inflation have been effective.
The cut is also a response to rising unemployment and stalling economic growth. By lowering the OCR, the RBNZ aims to stimulate economic activity by making borrowing money cheaper, which will hopefully encourage spending and investment.
The New Zealand dollar fell slightly following the announcement, reflecting market adjustments to the new monetary policy stance. The RBNZ is likely to proceed cautiously, signalling a data-dependent approach to future rate changes.
Ultimately, the OCR cut reflects the RBNZ’s commitment to maintaining price stability while striving to foster economic resilience by adopting a more accommodative monetary policy stance.