New Zealand Cuts Key Interest Rate by Record to 5%

By Tracy Withers

Dec. 4 (Bloomberg) -- New Zealand’s central bank cut its benchmark interest rate by a record 1.5 percentage points to 5 percent and signaled more reductions to come as it attempts to steer the economy out of it worst recession in 18 years.

“Today’s decision takes monetary policy to an expansionary position,” Reserve Bank Governor Alan Bollard said in a statement in Wellington today. “Some further but significantly smaller reductions in interest rates may be warranted.”

Central banks are cutting borrowing costs worldwide to try to stimulate spending amid a global economic contraction that is crimping demand for exports and stalling investment. Bollard said his 3.25 percentage points of rate reductions since July will ensure New Zealand recovers from a recession that started in the first quarter of this year.

“Given the data over recent weeks, both domestically and globally, there will be a deep recession in New Zealand’s economy,” said Helen Kevans, economist at JPMorgan Chase & Co. in Sydney. “The Reserve Bank has a lot more work to do.”

The Reserve Bank projected further declines in three-month bank-bill yields, adding to signs that Bollard will keep cutting the benchmark rate in early 2009. His next review is on Jan. 29. Economists forecast the rate will fall to 4.5 percent by the end of the first quarter.

“The current way we are looking at it, cuts may trough around the middle of next year, but this does depend on where the global economy goes and how the New Zealand economy responds,” Bollard told reporters today.

Cut Expected

Today’s cut is the largest since the Reserve Bank began using the official cash rate in 1999 and takes the benchmark to its lowest since December 2003. Eleven of 17 economists surveyed by Bloomberg News forecast the move. Six expected a 1 percentage point reduction.

New Zealand’s dollar rose to 53.31 U.S. cents at 1:35 p.m. in Wellington from 52.80 cents immediately before the statement was released. The currency paced gains in the Australian dollar as a rally in U.S. equities raised speculation investors will purchase higher yielding assets.

The spread between New Zealand’s benchmark interest rate and Japan’s narrowed to 4.7 percentage points, which may reduce demand for currency in the so-called carry trade.

The economy slipped into a recession in the first quarter amid a drought, soaring energy costs and a slump in the housing market. As the world’s largest economies contract, demand for exports is falling, making the recession the most prolonged since 1990.

‘Shallow’ Recession

“The New Zealand economy went into a shallow recession in this calendar year,” Bollard said in an interview. “What we’re now seeing is a shallow recovery. We’ve actually taken our foot off the brakes and put it mildly on the accelerator.”

Bollard today said the economy might grow in the fourth quarter, but could start contracting again in the first half of 2009. It will probably shrink 0.2 percent in the year ending June 30, 2009, before recovering, he said.

The International Monetary Fund predicts advanced economies including the U.S. and euro area will contract simultaneously next year for the first time since World War II. The economies of New Zealand’s 12 main trading partners may grow just 1.1 percent next year, the central bank said.

Bollard, 57, is responding to a slump in consumer spending and business confidence that is likely to see the jobless rate rise as companies fire workers to arrest a slide in profits.

Companies Firing

Last month, companies were the most pessimistic about sales and profit in more than 20 years, according to a report by ANZ National Bank Ltd. More than a fifth of companies said they are likely to fire workers and the proportion of firms expecting profit will fall was the highest in the survey’s 21-year history.

Air New Zealand Ltd., the nation’s biggest airline, last month said it will fire as many as 200 full-time staff to reduce costs as global demand for travel declines.

New Zealand’s jobless rate rose to a five-year high of 4.2 percent in the third quarter. It could reach 6 percent by early 2010, the central bank said today. Employment is likely to fall in the year to March 2010, it said.

Consumer spending will contract in the year to March and housing investment will shrink this year and next, the central bank said.

Still, interest-rate cuts, lower taxes and a 32 percent slide in the currency the past six months will “create the conditions for some rebound in growth,” Bollard said.

Mortgage Payments

ASB Bank Ltd. and Westpac Banking Corp. were among lenders to reduce their variable home loan rates after the statement. Payments on an average NZ$270,000 ($144,000) variable-rate home loan will fall by about NZ$220 a month. Still, more than 80 percent of home loans are fixed and won’t immediately benefit from today’s reduction.

Bollard, who is required to keep average price gains between 1 percent and 3 percent, expects the annual inflation rate will fall to 1.5 percent by Sept. 30, 2009, after reaching an 18-year high of 5.1 percent just a year earlier.

“Given the developments in the global economy, the risks to inflation are to the downside,” he said. The reduction in borrowing costs would keep inflation from falling below the target band.

Central banks around the world are slashing interest rates in response to a global slump in demand. The Reserve Bank of Australia this week cut its cash rate target by 1 percentage point to 4.25 percent and also said borrowing costs are now “expansionary.”

The Bank of England and the European Central Bank will also lower borrowing costs later today, according to economists surveyed by Bloomberg News.

To contact the reporter on this story: Tracy Withers in Wellington at twithers@bloomberg.net.