Brian Fallow: Bollard still expects 'respectable' growth

Alan Bollard. Photo / Mark Mitchell

Governor Alan Bollard has acknowledged today what has has been apparent to the financial markets for a while.

That is that the outlook for growth and inflation no longer warrants the staircase of official cash rate rises at almost every opportunity over the year ahead, which he had foreshadowed in the June monetary policy statement.

The key passage in this morning's decision is that "The pace and extent of further OCR increases is likely to be more moderate than was projected in the June statement."

The June statement's projected track for short-term interest rates implied they would rise 1.7 percentage points to 5 per cent over the year ahead, implying 25 basis point hikes at seven of the eight reviews.

The market has been saying five is more like it and now Bollard has implicitly endorsed that.

It reflects an environment in which the recovery in the world economy is "fragile", its prospects for growth have deteriorated, and world prices for our export commodities have moderated.

Bollard also took the opportunity to attempt to talk down the dollar whose recent appreciation, he said, is inconsistent with New Zealand's softening economic outlook and the moderation in commodity prices.

But he has just widened the interest rate gap with other countries, so his actions are liable to speak louder than his words, however sensible they may be.

Bollard's language on the domestic economy is generally downbeat: demand is subdued, households are cautious, housing turnover in decline and credit growth weak.

The recent dwindling in net immigration to a meagre and exiguous trickle is also acknowledged.

All of which raises the obvious question: why then raise interest rates at all?

Bollard stresses that he has barely started to take back the extraordinarily steep emergency rate cuts he delivered in the wake of the global financial crisis - nearly six percentage points, remember.

Even after today's increase from 2.75 to 3 per cent "the level of the OCR is still very supportive of economic activity."

The Reserve Bank still expects "respectable" economic growth over the year ahead.

And indeed yesterday's National Bank business sentiment survey implied growth of something like 3 per cent this year - slow for a recovery but a long way from recession.

And Bollard has to be mindful of the risk that the coming GST increase and other Government-driven increases in the cost of living will spill over into persistent inflation.

So this morning's statement carried a thinly veiled warning to the effect that the more people pass on those increases to their customers or their employers the more likely it is that he will have to respond in the only way he can - by raising interest rates.