NZ Economists: Is the Reserve Bank wrong about the OCR peak?

Economists say the Reserve Bank may be incorrect that 5.5% is as high as the official cash rate will need to go.

The Reserve Bank said in its latest monetary policy statement that it did not expect to need to increase the OCR again beyond its current 5.5%.

It forecast the rate to stay at 5.5% into the middle of 2024, before easing slowly. Governor Adrian Orr said, with rates remaining at restrictive levels for some time, inflation would return to its target range of 1% to 3% a year.

But Westpac chief economist Kelly Eckhold said more increases were likely to be required to get inflation to that level.

He earlier said that a 6% peak would be needed, due to the increase in demand caused by a surge of migration.

“We do think the Reserve Bank is wrong to be quite so unequivocal in ruling out further interest rate increases beyond 5.5% given the scale of uncertainties currently at play. Having said that we do expect that they will be watching the data carefully in the period ahead and will adjust their view if it becomes apparent that more interest rate increases are required.”

Miles Workman, a senior economist at ANZ, said he also thought the Reserve Bank would need to increase rates again.

‘Unless something nasty comes out of left field, we think the Reserve Bank will be back in hiking mode by November.

“We’re already seeing some evidence of economic resilience, with green shoots emerging in the housing market, monthly employment growth remaining solid in April, our Business Outlook survey recovering across a range of activity indicators in May, and Budget 2023 adding another $5 billion or so – around 1.4% of GDP – of Government demand to the mix in the year to June 2024. All this before annual non-tradables inflation has started to turn.”

He said headline inflation was likely to slow but was still likely to prove stickier than the Reserve Bank expected.

“That said, there are some significant soft spots out there, and for some households economic conditions are very tough indeed. The Reserve Bank’s current ‘watch, worry, wait’ stance is really about gauging whether or not this softness is enough to get core inflation down and the labour market back into ‘sustainable’ territory in a timely manner. Time will tell.”

He said it was not necessarily dangerous for the Reserve Bank to pause its hikes now, though.

“After such a rapid pace of tightening, it can be a good idea to wait for the economic impacts to catch up. Monetary policy can impact demand and inflation with long and variable lags.

“Conversely, pausing too early could mean that they end up needing to hike more overall, as this would give high inflation more oxygen than otherwise to become entrenched in wage and price setting behaviour. The current pause can be thought of as a middle ground between these two risks. Importantly, a pause certainly doesn’t guarantee that the next move in the OCR will be down – the pre-GFC experience is proof of that.”