Interest rates to stay on hold next week, says economist

ASB chief economist Nick Tuffley says the Reserve Bank is likely to leave the Official Cash Rate unchanged next Thursday. Photo / Northern Advocate

ASB bank economists say they expect the Reserve Bank to leave official interest rates on hold at a record low 2.5 per cent next week.

This week's weaker than expected inflation data gives the bank "a bit of breathing space" they say, to wait until later this year - possibly July - to hike rates.

Instead of watching the OCR, economists will be closely analysing the language used by Governor Alan Bollard next Thursday - seeing whether he "pins down a time" as to when he will start increasing interest rates again.

"In recent announcements, it has indicated its expectations that monetary policy stimulus would be removed "around the middle of 2010".

Since the Reserve Bank finalised its March forecasts the flow of data has not been very compelling," said ASB chief economist Nick Tuffley this morning.

Markets have over the past week begun "paring back the chances of a June OCR increase" he said. "Although with just over one-third probability for June priced in, it remains a finely balanced decision."

"While there is typically some uncertainty going into every rate announcement, the lack of detail surrounding the potential changes to the tax treatment of investment property in the Budget on May 20 heightens this uncertainty."

Drought was also having an impact, although the effect on GDP would not be known till late June.

"Given the pivotal role these events will play in determining how long the OCR can be left at current stimulatory levels, the Reserve Bank will likely continue to leave the timing of tightening open to both June and July."

The accumulation of "slightly softer data" in recent weeks meant that ASB economists expect the first OCR increase to occur in July.

"The Reserve Bank had (in our view) incorporated a very strong view regarding the pace of quarterly growth over much of 2010, and recent data may lead it to reassess the likelihood of growth being quite that strong," said Tuffley.

One of the key downside surprises to economic growth this quarter was likely to be from weaker output from the agriculture sector. The drought in the top of the North Island had reportedly had a severe impact on dairy production.

"Meanwhile, retail trade has been surprisingly weak, suggesting the household sector remains very cautious. This caution can partly be explained by the fact that the housing market has lost momentum," said Tuffley.

With uncertainty over potential changes to tax policy regarding property investment, many potential buyers are choosing to wait on the sidelines until the Budget announcement on May 20. Even then, any tax changes are likely to continue to weigh on the housing market for some time.

-NZ HERALD