Bollard tipped to hold rate at 6.5 per cent

Alan Bollard

Economists and the money markets are not in much doubt that Reserve Bank Governor Alan Bollard will leave the official cash rate unchanged at 6.5 per cent when he reviews rates again on Thursday.

But they will be looking for an explanation for his surprise declaration on October 28 that he had tightened enough to restrain inflation.

Since then data has suggested an economy with a lot of momentum, with unemployment falling to an 18-year low and retail sales strong in the September quarter.

Westpac chief economist Brendan O'Donovan said, in addition, cut-throat competition among banks for new mortgage business had pushed down the fixed rates on offer, undermining the impact of Bollard's OCR rises, which drive up floating mortgage rates.

Offsetting that is the exchange rate.

Fear of pushing the kiwi dollar higher still is widely seen as the main reason the bank called a halt to its run of interest rate rises.

 

Since the October OCR review, the kiwi has lost some ground against the Australian dollar but continued, like other currencies, to climb against the US dollar. That has pushed the exchange rate back to where it was before the October review on a trade-weighted basis.

"The higher currency is neutralising what would otherwise be a mild case of stomach acid," O'Donovan said. "We suspect the Reserve Bank, after making October's u-turn, did have a few moments of regret when domestic data continued its strong run."

He said the bank would remain wary of wage inflation and it was unlikely to see much let-up in construction costs, which have been a hot-bed of inflation, as stronger non-residential construction offset weaker housing demand.

"We don't see a lot of scope for the Reserve Bank to signal that it is about to swing to imminent rate cuts."

ASB Bank economist Kate Skinner said money market pricing implied the Reserve Bank's next move would be a rate cut by June next year.

"Given inflation is likely to be forecast to be at, if not above, the upper limit of 3 per cent [in the bank's target band] for 2005 we expect the Reserve Bank to signal that a rate cut is still a long way away," she said.

"The actual timing of a rate cut will partly depend on the dollar. If the currency goes through the roof, a rate cut becomes more likely."

All 14 economic forecasters in a Reuters poll released on Friday expect the bank to keep the official cash rate at 6.5 per cent on Thursday.

And all but one of them (Westpac) expect it to stay there until the September quarter next year.