What happened?

• The Reserve Bank left the Official Cash Rate (OCR) unchanged at 2.5% at its latest review on 28 July 2011.
• The Reserve Bank said the economy had grown more strongly than was expected, with strong terms of trade supporting the economic recovery.
• While inflation continues to be above the Reserve Bank’s target of 1-3%, they expect this to be temporary, driven by the increase in the rate of GST last year. They expect inflation expectations will gradually reduce.
• The Reserve Bank cut the OCR by 0.5% to its present level in March, as ‘insurance’ against the potential impacts of the Christchurch earthquake on the economy.  They now see little need for that ‘insurance’ cut to remain in place much longer.
• They also said that the high New Zealand dollar is acting as a drag on the economy, and that “if this persists it is likely to reduce the need for further OCR increases in the short term.”

What does this mean?

• Our economists expect the March 2011 ‘insurance’ cut to be removed and the OCR to rise to 3.0% at the next review in September.
• They believe the Reserve Bank will then pause to review the situation before deciding whether any further tightening is needed. This will depend on a range of factors including the strength of the New Zealand dollar, inflation expectations and developments in global economies.

How does the OCR affect home loan interest rates?

The OCR is set every six weeks by the Governor of the Reserve Bank.  The Governor sets this rate to manage inflation, based on what’s happening in the economy.  The OCR is one of many indicators, including overseas interest rates and wider economic developments, that affect short term interest rates such as floating rates and one and two year fixed lending rates.

(Source National Bank)