- The Reserve Bank of New Zealand raised the Official Cash Rate by 25 basis points to 0.75%, marking the second hike in the current tightening cycle.
- The New Zealand economy is performing above its potential, resulting in higher inflation and labour market tightness. Accordingly, the central bank revised its benchmark interest rate projection, signaling faster monetary tightening.
The Reserve Bank of New Zealand’s (RBNZ) Monetary Policy Committee raised the Official Cash Rate by 25 basis points to 0.75% following the November 24 monetary policy meeting (chart 1), in line with our expectation. The RBNZ’s hiking cycle had kicked off at the prior meeting in October when the benchmark rate was raised from 0.25% to 0.50%. Given strong inflation and tightness in the labour market, the RBNZ considers further reduction of monetary stimulus appropriate. In fact, it signaled that a faster monetary tightening path was need in order to meet its medium-term price stability and sustainable employment targets. The central bank foresees the Cash Rate to reach 2.5% by the third quarter of 2023. The next monetary policy decision is scheduled for February 23, 2022, when the Official Cash Rate will likely be raised to its pre-pandemic level of 1.0%.
New Zealand’s economy is set to record a robust rebound from the slump caused by the recent COVID–19 lockdown. The RBNZ noted that the economy’s underlying growth has been stronger and more broad-based than expected, thanks to resilient household spending and export sector activity. According to the central bank, the economy is performing above its potential. Therefore, it is now facing resource constraints, particularly in the labour market, which the central bank characterizes as “exceptionally tight”. Indeed, employment is assessed to be above its maximum sustainable level, triggering wage inflation as firms are competing for workers. Labour participation has climbed to a high level of 71.2% and unemployment has dropped to 3.4%, a rate last seen in 2007. Against this backdrop, the labour cost index increased by 2.5% y/y in Q3 and is expected to show further acceleration through 2022. Another indicator, the country’s average weekly wages, showed remuneration increasing by 6.1% y/y in Q3.
Inflationary pressures in New Zealand have intensified recently, with the consumer price index rising by 4.9% y/y in Q3 (chart 2), well above the RBNZ’s inflation target of 1–3%. The RBNZ forecasts headline inflation to accelerate further, hovering at 5.7% y/y over the next two quarters before returning to the inflation target by the first quarter of 2023. Price pressures in New Zealand reflect both domestic and external factors. Rising capacity pressures—in such areas as housing, electricity, and transportation, for instance—and elevated wage inflation have led to a pickup in domestic inflation. Meanwhile, global supply chain issues and higher prices of oil and other imports have further contributed to inflationary pressures. The RBNZ notes that inflation risks are skewed to the upside, as the current elevated inflation rate may fuel inflation expectations and become embedded in price-setting behaviour. We generally agree with the RBNZ’s assessment of the economy. We note that the New Zealand (and the global) economy faces significant uncertainties related to economic activity—given the evolving COVID–19 situation—as well as inflation dynamics. As we move into 2022, differentiating between transient price gains and underlying inflationary pressures should become less challenging.
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