Bottom of OCR cuts either here or not far away - ASB

ASB economists say the extent of further interest rate falls is now up in the air and the OCR could bottom out at 3%.

The bank has changed its tune on predicting a drop to 2.75% for the OCR, saying inflation is creeping up, and the RBNZ is getting a bit twitchier about how that spike will affect Kiwis’ perceptions of future inflation.

ASB chief economist Nick Tuffley says the bank now expects one further 25bp cut in August to 3%.

“However, given the uncertainties the risks range from no more cuts to a couple more. We could be around the lows in interest rates now – if not very soon.”

He says now that interest rates are back down to a neutral level, the RBNZ can afford to wait and see how the uncertainties play out.

The bank expect inflation will be between 2-2.5% through next year, but could exceed 3% again this year, depending on oil price shifts.

Tuffley says this inflation spike will concern the RBNZ, as it is wary that inflation expectations are already rising and could trigger a return to behaviours that ingrain high inflation.

“High-frequency purchases, such as food and fuel, can have a relatively larger influence on inflation expectations, so recent developments are likely to prompt the RBNZ to pause at its OCR review next month.”

“High-frequency purchases, such as food and fuel, can have a relatively larger influence on inflation expectations, so recent developments are likely to prompt the RBNZ to pause at its OCR review next month.”

The RBNZ faces conflicting influences, he says. 

The medium term, which is where it focuses, is likely to experience some disinflationary impacts from the trade war fallout.

“And there are some oddities. Headline inflation looks stubborn. Yet interest rates do not appear to be having a very stimulatory effect, illustrated clearly by how slowly the property market is responding to where lending rates have dropped to.”

Tuffley says either there are other factors, such as job insecurity or uncertainty over the influence of Donald Trump’s actions that are holding people back, or the level of rates is not that stimulatory.

The bank’s economists have assumed the RBNZ will pause in July until it gets added data on inflation and inflation expectations, and key trade negotiation deadlines pass.

These events are especially critical for whether the RBNZ sees the need – and has the comfort – to cut the OCR any further.

The bank expects the economy will gradually lift to a 2-2.5% pace of growth heading through 2026, though tariffs could slow this pick-up.

This year and next year’s growth outlooks have taken on a decidedly below-average level as forecasters adjust to the new reality that tariffs of some kind will be in place for the foreseeable future, Tuffley says.