The official cash rate cut to 3.25 per cent the Reserve Bank delivered yesterday and the follow-up one it has clearly foreshadowed may not be all we see this year.
"Markets are now pricing in a 50 per cent chance of a follow-up cut in July, a full cut by September and a 50 per cent risk of another cut on top of that later in the year," said Westpac chief economist Dominick Stephens.
The Bank of New Zealand's head of research Stephen Toplis expects the Reserve Bank to cut again in July and believes there is a 50:50 chance of yet another in September.
And ANZ chief economist Cameron Bagrie sees a 50 per cent probability of a third cut before year's end.
Governor Graeme Wheeler told the Herald it was a fair conclusion that the risks to the bank's forecasts lie predominantly to the downside.
While its forecasts have GDP growth averaging around 3 per cent over the next three years, the track for domestic demand - even with the stimulus of 50 basis points of interest rate cuts included - has growth dropping from around 4.6 per cent now to 2.1 per cent in three years.
The main reason the bank gave for cutting the OCR is a deterioration in the terms of trade - the mix of export and import prices - reducing national income and demand in the economy. Dairy prices have continued to decline over the past three months. The bank is forecasting only a gradual recovery over the next three years and not to anything like the heights seen in 2013 and 2014. One downside risk is that dairy prices continue to fall.
Stephens said there were three dairy auctions between now and the July OCR review. If world dairy prices continued to soften at the auctions Westpac would probably look to forecast the OCR falling below 3 per cent.
On the other side of the trade accounts oil prices have recovered some of the ground they lost with the result that the bank has halved the expected boost to households' spending power from that source.
The bank is also assuming a sharp fall in the net inflow of migrants. If it is wrong about that, unemployment could remain higher than it expects and wage growth weaker - another downside risk. It also assumes the exchange rate will continue to depreciate from "overvalued" levels, leaving less work for interest rates to do in terms of getting inflation back up towards its target of 2 per cent. But forecasting the exchange rate is notoriously difficult.
The Reserve Bank's March forecasts did not have inflation getting back to 2 per cent until mid- to late-2017, Wheeler said. Adding the weaker outlook for the terms of trade which has emerged since then would have pushed the return to the inflation target too far out, even with the expected pick-up in tradables inflation from higher fuel prices and a weaker dollar.
Stephens described yesterday's rate cut as a risky decision.
"New Zealand is torn between rampant house prices and strong domestic demand on one hand, and a weak export sector and low inflation on the other. The Reserve Bank has chosen to emphasise the latter and downplay the former," he said.
The OCR cut ran the risk of further stimulating the Auckland housing market, he said.
Wheeler's riposte to this point, put to him by Labour's finance spokesman Grant Robertson when he appeared before Parliament's finance and expenditure select committee, is that rampant house price inflation is largely an Auckland problem and he has to make monetary policy for the country as a whole.
While demand-side policies like the bank's planned tightening of minimum deposit requirements for Auckland property investors and the Government's tax changes would help, the key to fixing Auckland's property market imbalance was more supply.
Toplis said the Reserve Bank seemed to have taken the view that whatever happened to housing was not its fault but rather the Government's, both local and central.
"In other words, because supply is the issue and the bank can do nothing about supply it will point the finger at others to fix the problem. In large part this is the right thing to do but we still think the bank was unwise to ignore the rhetoric from the real estate agents that low interest rates were also a significant driver of housing market activity."
The Real Estate Institute yesterday reported that the median house price in Auckland rose 19.8 per cent to $729,000 in the year to May, compared with 2.6 per cent in the rest of the country.