No OCR increase expected this week

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Reserve Bank governor Alan Bollard is likely to leave interest rates unchanged next week amid the faltering economic recovery and the likely hit to confidence from the Canterbury earthquakes and South Canterbury Finance's collapse.

Sunday, September 12th 2010, 3:24PM

by Jenny Ruth

A Good Returns survey of 12 economists found all are expecting Bollard to hold his official cash rate (OCR) steady at 3%.

"Recent developments mean the Reserve Bank will err on the side of caution and hold off raising the OCR," says Christine Leung, an economist at ASB Bank.

Domestic growth has been below the central bank's expectations and the growth outlook for the US and China is increasingly uncertain," Leung says.

Craig Ebert, an economist at Bank of New Zealand, says recent statements from Bollard have been "almost finding excuses" not to raise the OCR. "The earthquake simply reinforces the caution for the near term."

Annette Beacher at TD Securities says Bollard will resume hiking the OCR soon. "At 3%, the cash rate is well below the 5.75% 'average level' since its March 1999 inception, hence there is still the need to restore policy settings closer to neutral as as not to create imbalances.

She is forecasting the OCR will reach 4.5% by the end of 2011. But in the meantime, inflation expectations remain reasonably low and, with house sales in July down 37% on a year earlier, Bollard doesn't have to worry about low mortgage rates stimulating the housing sector, she says.

In any case, Brendan O'Donovan, chief economist at Westpac, says longer-term mortgage rates have flattened so much "that it's feasible again for borrowers to 'escape' the impact of any further OCR hikes by switching into fixed-term rates."

O'Donovan says current wholesale market pricing of the OCR's peak is too low. He says Bollard has likely lowered his expected peak in the OCR from 6% because of developments since his June monetary policy statement. "But a peak of around 5.25% is still a far cry from the 4% peak that interest rate markets are currently pricing."

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