Analysts tip further rate cuts

By BRIAN FALLOW economics editor

Market economists expect the Reserve Bank to follow up yesterday's 25 basis point cut to 6 per cent in the official cash rate with another just like it on May 16, when rates are next reviewed.

WestpacTrust, BNZ, ANZ, ASB, Deutsche Bank, HSBC, UBS Warburg and Salomon Smith Barney all expect bank governor Don Brash to go another 25 points in his monetary policy statement next month - although they differ on the extent of any downside beyond that.

WestpacTrust chief economist Adrian Orr said Dr Brash had to ask himself whether he was trying to pump-prime the domestic side of the economy, in fear of the global slowdown, or not.

"If he is, 6 per cent isn't going to do it. You probably have to be at least 5.5 per cent before you can put your hand on your heart and say you are stimulating the domestic economy."

Indicators of how monetary conditions were perceived, like asset prices and the demand for borrowing, suggested that further rate cuts would not be a case of pouring fuel on the fire of already strong demand.

"The persistent part of the inflation process is domestic spending. It's what happens from Hamilton north, and unless you see pressure building up there - and so far we don't - you are pretty safe," said Mr Orr.

Dr Brash said the main reason for cutting the official cash rate again was the slowing growth in New Zealand's main trading partners, which would hurt demand for exports and was likely to reduce inflationary pressures in New Zealand.

But the rest of his statement struck a hawkish note.

"World prices for our commodities remain robust, however, and the exchange rate has fallen back since March. These unexpected developments, if they persist, could take much of the disinflationary sting out of weakening global demand.

"In addition significant parts of the economy are operating near to capacity and the labour market is relatively tight."

Further testimony to the extent of the global slowdown was provided by United States Federal Reserve chairman Alan Greenspan on Wednesday night with a surprise 50 basis point cut in the Fed funds rate - the fourth this year.

Weakening business investment in the US and the risk of slower growth overseas, plus the possible effects on consumer spending from the loss of wealth from the fall in share prices, threatened to keep the pace of US economic activity unacceptably weak, Mr Greenspan said.

While US equity markets rallied on the news, this time the US dollar did not.

"The foreign exchange market has joined the bond market in saying 'This is going to be bad'," Mr Orr said. The sharemarket by contrast was still focusing on the treatment rather than the disease, the silver lining rather than the cloud.

In New Zealand, and despite Dr Brash's cautious language, the futures market rallied. The June contract has now fully priced in another 50-point cut by mid-year and about a fifty-fifty chance of a further 25-point cut beyond that.

Bank of New Zealand chief economist Tony Alexander said there was probably another 50 points left for rates to fall this cycle, most likely 25 next month and another 25 in August.

"There is a lack of strength in some indicators one might have thought would be stronger by now.

"The housing market has ended its decline but you would be hard pressed to say it is rising sustainably yet. Retail trade numbers, when you allow for inflation, are nothing too spectacular. And business investment is not firing either."

Internationally, further downward revisions would be made to trading partner growth forecasts, but not much more.

"That's what underlies our message: Don't get dragged into thinking the Reserve Bank is going to go for a major easing this year, or match other central banks one-for-one," said Mr Alexander.

This cycle, the Reserve Bank has cut the cash rate 50 points to 6 per cent, the Fed 200 points to 4.5 per cent and the Australian Reserve Bank 125 points to 5 per cent.