New Zealand Will Need Gradual Interest Rate Increases, OECD Says

New Zealand will need to gradually raise interest rates later this year or in early 2014 as growth accelerates amid earthquake rebuilding, according to the Organization for Economic Cooperation and Development.

“Economic slack will dissipate over 2013-14 and, as inflation pressures emerge, monetary stimulus should then be gradually removed,” the Paris-based OECD said in its biannual economic survey of New Zealand.

Reserve Bank of New Zealand Governor Graeme Wheeler kept the official cash rate at a record-low 2.5 percent in April and said he didn’t expect to raise borrowing costs this year, citing benign inflation and a strengthening exchange rate. Borrowing costs have been unchanged since March 2011 to help the economy recover from the global financial crisis and an earthquake in Christchurch that caused NZ$30 billion ($24 billion) of damage.

“Monetary policy is appropriately accommodative, given the high exchange rate, weak employment growth and subdued inflation,” the OECD said. The currency has risen 5.9 percent in the past year, the second-strongest among the 10 currencies tracked by Bloomberg Correlation-Weighted Indexes.

Interest rates are higher than many other developed nations, and recent estimates suggest the exchange rate is as much as 20 percent over-valued, the OECD said.

Wheeler last week said he has intervened to sell the currency and is prepared to keep doing so, citing the damage it does to exports and growth.

Currency Puzzle

“The strong currency appears to be part of a longer-term puzzle in which the real exchange rate has failed to adjust down to levels consistent with New Zealand’s productivity underperformance relative to other advanced countries,” the OECD said.

The central bank “could lean more heavily against future cyclical swings” in the economy and is more likely to use prudential tools in the future, the OECD said. The tools give the central bank the ability to influence bank balance sheet ratios, and to curb the volume of home loans at more than 80 percent of purchase price.

Capping high loan-to-value lending “could supplement eventual monetary policy tightening, if need be, in controlling excessive mortgage credit growth, rather than being used to substitute for monetary policy action,” the OECD said.

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