A stronger economy has prompted the Reserve Bank to give its clearest message yet that interest rate increases are coming, but not this year.
As expected, the central bank left the Official Cash Rate on hold at 2.5% on Thursday. It has been at the record low since March 2011.
Reserve Bank Governor Graeme Wheeler estimates the economy grew 3% in the year to September, led by the Canterbury rebuild, while rising consumption, higher immigration and a lower dollar are expected to fan inflation pressures.
Graeme Wheeler. Photo: RBNZ
The bank's forecasts now assume the benchmark interest rate will start rising in the June quarter next year, although Mr Wheeler says the timing and number of increases required is still uncertain and will depend on the exchange rate and the housing market.
He repeated that he did not want to see rapid house price rises in Auckland spill over into wider inflation pressures.
Mr Wheeler says restrictions on riskier loans, which come into force next month, should help slow house prices and modestly ease the pressure to lift interest rates.
The increases expected next year mean the OCR will probably rise to about 4.7% by March 2016.
That's about half a percentage point higher than the central bank was expecting in June.
Cooling effect
Mr Wheeler says if it wasn't for the central bank's restrictions on mortgages with less than a 20% deposit, which come into force next month, the OCR would need to rise to about 5.2% by March 2016.
He says the extent to which the OCR will need to rise will depend largely on the degree to which rising house prices and construction activity fuel inflation.
Inflation remains low but Mr Wheeler says it is expected to rise to the middle of the central bank's 1-3% target band.
Mr Wheeler also says the dollar remains high despite recent declines, affecting exporters' competitiveness against foreign rivals.
His first explicit indication on the timing of interest rate hikes has pushed the New Zealand dollar higher against the US currency.
The kiwi jumped about half a cent immediately following the central bank's announcement on Thursday morning, and was quickly buying around 81.45 US cents.
It also lifted more than half a cent against the Australian dollar, buying 87.30 Australian cents.
Higher interest rates make the dollar a more attractive investment and Westpac market strategist Imre Speizer says that's likely to push the kiwi even higher.
Economists, PM react
Economists say the central bank is right to clearly signal rate hikes, given the Canterbury rebuild is picking up pace, consumption and immigration is rising and confidence has surged.
They say restrictions on riskier loans, which come into effect next month, are expected to have a small dampening effect on activity.
Westpac chief economist Dominick Stephens says by giving an early warning that OCR hikes are coming, the Reserve Bank may not have to raise it as much.
Prime Minister John Key says the possible raising of the OCR next year is a double-edged sword.
Mr Key says interest rates are currently at a 60-year low so it is inevitable that they will eventually track up again.
"Part of the reason that interest rates will rise is because we're seeing a faster pace of growth and a falling unemployment rate in New Zealand.
"For a lot of New Zealanders obviously they won't want to pay more for their interest rates but they'll feel much more confident that they've either got a job or (will) get a job or will keep their job so I think that's positive news."
