RBNZ Signals 2014 Interest Rate Rise as Inflation Picks Up

New Zealand’s central bank said interest rate increases “will likely be required next year” as the economy strengthens and inflation picks up. The kiwi rose.

“With the inflation pressures that have the potential to build up, given the capacity constraints in the economy, we will need to raise interest rates,” Reserve Bank of New Zealand Governor Graeme Wheeler said in Wellington today after leaving the official cash rate at 2.5 percent, a record low. “Exactly when that will start to trigger will be determined by many factors. At this point we don’t expect that to start this year.”

New Zealand may become one of the first developed nations to begin raising borrowing costs as an overheated housing market and accelerating economic growth start to stoke price pressures. Until then, Wheeler is betting new limits on riskier mortgages will curb demand for property and give him scope to leave rates unchanged for as long as possible to avoid fueling demand for the New Zealand dollar.

“They have more belief that the rates are going to be lifting next year,” said Doug Steel, economist at Bank of New Zealand Ltd. in Wellington. “The forward leading indicators for the economy are going from strength to strength and it’s those indicators that say tighter monetary conditions are likely to be required.”

High Kiwi

New Zealand’s currency advanced to a three week high, before paring its gains. It rose 0.5 percent to 81.20 U.S. cents at 3 p.m. in Wellington. It has gained 1.6 percent the past three months, the best performer among the 10 major developed currencies tracked by Bloomberg.

“The overvalued currency is a problem and we would certainly, as a central bank, like to see a weaker currency,” Wheeler told a parliamentary committee after the rate decision was announced. The exchange rate’s gains are hurting industries such as manufacturing and tourism, he said.

The central bank today forecast that the three-month bank bill yield will be 3 percent in the second quarter next year, up from an estimated 2.6 percent in the current quarter. The outlook, which is seen as a guide to the direction of the cash rate, suggests an increase in the benchmark in the first half of 2014. The previous projection published in June implied a rate rise in the second half.

Loan Curbs

The bank bill forecasts are about 50 basis points higher than in June, reflecting stronger immigration and commodity price rises, and recent currency declines, the RBNZ said. Restrictions on low-deposit home loans, which take effect next month, reduced the bill yield forecast by about 30 basis points, it said.

The RBNZ will limit low-deposit lending from Oct. 1. Loans for more than 80 percent of a property’s value must account for no more than 10 percent of a bank’s new lending, down from about 30 percent currently.

Wheeler has expressed concern that the banking system is getting over-exposed to any sudden collapse in the housing market. Prices rose 8.5 percent in August from a year earlier, the fastest annual pace since January 2008, Quotable Value New Zealand said this week.

The loan restrictions will slow annual house-price inflation by as much as 4 percentage points over the next year, the RBNZ said in its Monetary Policy Statement, also published today. House-price inflation will peak at 11 percent in the first quarter of 2014 before declining to 5 percent a year later, it said.

Rate Odds

Thirteen of 15 economists surveyed by Bloomberg News last week expected a rate rise by March 31. None expected an increase today.

There is a 78 percent chance of a rate rise by March, according to swaps data compiled by Bloomberg at 3 p.m. in Wellington, and an 85 percent of no change this year.

“The extent and timing of the rise in policy rates will depend largely on the degree to which the momentum in the housing market and construction sector spills over into broader demand and inflation pressures,” Wheeler said.

The RBNZ raised its growth forecast for the year through March 2014 to 3.2 percent from 3 percent, citing construction and a boost to spending from rising house prices. Growth will peak at about 3.5 percent in mid-2014 and slow to 2.3 percent by March 2015, it said.

Rising Inflation

It maintained its inflation forecast for 2014 at 1.9 percent. Inflation isn’t projected to reach the midpoint of the 1 percent to 3 percent range that Wheeler targets until the second quarter of 2015. Consumer prices rose 0.7 percent in the year ended June 30.

“Inflation is expected to rise toward the midpoint of the target band as growth strengthens over the coming year,” Wheeler said. “Consumption is rising and reconstruction in Canterbury will be reinforced by a broader national recovery in construction activity, particularly in Auckland.”

New Zealand is being buoyed by an estimated NZ$40 billion ($32 billion) rebuild of the South Island city of Christchurch following a series of earthquakes in 2010-11 that damaged roads, homes and commercial property. A lunchtime quake in February 2011 killed 185 people when some central city buildings collapsed.

The central bank has left the cash rate unchanged since March 2011 to allow the economy to recover from the earthquakes and to revive confidence after Europe’s sovereign debt crisis curbed global demand. Exporters have also been buffeted by near-zero interest rates in the U.S. and Europe, which helped boost the New Zealand dollar.

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