In his speech, Dr Bollard told the Wellington Chamber of Commerce that inflation was also still an issue.

He has cut the Reserve Bank's official cash rate sharply, from 8.25 to 5 per cent, in just over four months in anticipation of a global recession coming on top of a local one.

"Short-term mortgage rates have been cut, but not by this much," Dr Bollard said. "Banks should not expect to be able to maintain high profit margins in this environment."

Inflation at 5.1 per cent is well outside the 1 to 3 per cent band in which he said is required to keep it on average over the medium term.

The Reserve Bank forecasts inflation to drop to 1.5 per cent by September next year, reflecting lower commodity prices and an economic climate so weak that firms are wary of passing on higher costs for fear of losing business.

But Dr Bollard stressed yesterday that he needs to see evidence that inflationary pressures are reducing significantly across the board if he is to keep on cutting interest rates.

"We would hope that the electricity industry does not take advantage of its market position and keep increasing rates, that local authorities realise they need to set rates increases below inflation for a change, that the construction materials industry responds to much weaker demand, that the food industry reacts to lower international commodity prices with price cuts, that petrol companies keep cutting forecourt prices, that the transport industry passes on fuel price cuts, and that the banks pass on interest rate cuts."

Over the past three years inflation has averaged 3.2 per cent but household energy costs and local body rates have risen nearly twice as fast, while petrol prices rose by an average of 14.3 per cent a year.

Since July, however, world oil prices have fallen by more than two-thirds. An equal reduction at the pump could not be expected, as it is offset by a lower exchange rate and diluted by other costs like taxes and firms' profit margins.

But even allowing for that, retail petrol prices should be dropping further, Dr Bollard said.

Likewise, now that global dairy prices had "crashed" there was plenty of room for retail price cuts.

What he says

* Petrol companies should keep cutting forecourt prices.
* Food industry should respond to lower commodity prices.
* Local authorities need to set rates increases below inflation.
* Power companies should not take advantage of market position.

What they say

* Shell spokeswoman Jackie Maitland: 20 petrol price drops since July.
* Food and Grocery Council executive director Brenda Cutress: New Zealand supermarket industry "highly, highly competitive".
* Meridian Energy spokeswoman Claire Shaw: "We need to perform as a business."
* Auckland City Councillor Doug Armstrong: City had managed to keep its rate rises within the council rate of inflation.

By David Eames | Email David