Firms lower inflation prospects

New Zealand firms have pared back their inflation expectations even further for the next two years, giving the Reserve Bank room to keep interest rates on hold for longer.

Respondents to the Reserve Bank's survey of expectations believe the consumer price index will be 2 per cent a year from now, down from 2.24 per cent in the March survey, while two-year ahead expectations fell to 2.41 per cent from 2.5 per cent.

Firms are picking CPI inflation of 0.5 per cent in the June and September quarters, implying annual inflation rates of just 1.1 per cent and 1.2 per cent respectively for the June and September years.

"The easing in inflation expectations is not surprising, given the recent deterioration in the economic outlook," ASB economist Jane Turner said.

"With inflation expectations currently well anchored there remains little urgency for the RBNZ to lift the OCR [official cash rate] off its low level of 2.5 per cent, particularly as downside risks to the outlook remain."

Traders are betting the Reserve Bank will cut 39 basis points from the OCR over the coming 12 months, the Overnight Index Swap curve shows.

Markets have shifted away from expecting a rate hike this year amid fears Europe's sovereign debt crisis could destabilise the global economy further. A net 15 per cent of respondents expect easier than neutral monetary policy by September, though more are picking tighter conditions by next March.

The 90-day bank bill, often seen as a proxy for the OCR, is expected to be 2.7 per cent by June, rising to 2.8 per cent by March.

The yield on the 90-day bill rose 2 basis points to 2.57 per cent in trading yesterday. The yield on the benchmark 10-year government bond is predicted to be 4.1 per cent by March, and rose 2.5 basis points to 3.59 per cent yesterday.

Unemployment one- and two-year expectations rose 0.1 percentage points to 6.3 per cent and 5.9 per cent respectively. Hourly earnings growth rose to 2.5 per cent from 2.4 per cent for one-year ahead expectations, and fell to 2.7 per cent from 2.8 per cent on the two-year forecast.

The Reserve Bank surveyed 71 firms out of a sample of 118, and was conducted by Nielsen.