NZ Holds Rates Steady, but Vigilant on Inflation

New Zealand's central bank held interest rates steady at 8.25 percent on Thursday, as expected, but said rising food prices and increased government spending were adding to persistent inflation pressures.

The Reserve Bank of New Zealand said in an accompanying statement it was seeing signs of an easing in the housing market, following four increases to its official cash rate this year, while uncertainty surrounding the global credit sector remained.

"Even if the conclusion is neutral on rates the undercurrent is a bit more hawkish," said UBS senior economist Robin Clements.

The market showed little reaction to the statement. The New Zealand dollar was a shade firmer at around $0.7560 while bonds and bills were also little moved.

All 17 economists in a Reuters poll had expected the central bank to leave interest rates on hold.

New Zealand's official interest rate is the highest in the industrialized world and has proved a magnet for investors seeking high-yielding returns.

In July, those high rates helped drive the New Zealand dollar to its highest level since it was floated more than two decades ago. It has since fallen sharply as investors cut risk during the global credit squeeze.

"While turbulence in the global financial markets has eased somewhat, considerable uncertainty remains. This poses a downside risk to our key trading partner economies," RBNZ Governor Alan Bollard said in a statement. "The New Zealand dollar remains relatively high, restraining the
externally-focused sectors of the economy."

Government Spending

The central bank, which has lifted rates by 1 percentage point this year on inflation concerns, said rising food prices, further fiscal spending, as well as the government's proposed new energy strategy were posing inflation threats.

"We think the RBNZ will get through without another tightening, but the likelihood of big tax cuts is one reason we are now pushing any cut in the cash rate from the end of 2008 to the second quarter of 2009," said HSBC chief economist John Edwards.

A Reuters poll conducted after the rate review showed 13 of the 16 economists predicted the next move in rates to be a cut, with most expecting it to come in the second half of next year.

Of the three analysts expecting another rise, one thought it might come as soon as in December.

Finance Minister Michael Cullen told Reuters last week that personal income tax cuts would be included in next year's pre-election budget, although the scope had not yet been decided.

But Cullen also noted the government would need to exercise caution in fiscal policy given inflation concerns.

The annual inflation rate dropped to a lower-than-expected 1.8 percent in the third quarter from 2 percent in the previous quarter, although the fall was mainly due to one-off factors.

The central bank forecast in September that annual inflation would move back to 3 percent -- the top of its 1 percent-to-3 percent target band -- by the end of the year on weakness in the currency and higher food prices.

The economy expanded a seasonally adjusted 0.7 percent in the June quarter, outstripping the central bank's forecast of 0.5 percent growth, which has prompted some economists to look for further rate increases.