Bollard takes a bob-each-way to OCR review

Reserve Bank governor Alan Bollard took a bob-each-way approach to reviewing interest rates which has left economists and financial markets scratching their heads.

Thursday, July 28th 2011, 12:24PM

by Jenny Ruth

Leaving the official cash rate (OCR) unchanged at 2.5%, as expected, Bollard said the domestic economy is stronger than expected but expressed concern about the "current fragility in global financial markets," especially the political uncertainty in the US over the government's debt ceiling.

If the global risks recede and the domestic economy continues to recover, the 50 basis point OCR cut could be reversed soon, Bollard said. However, he is also worried about the very high New Zealand dollar and if this persists "it is likely to reduce the need for further OCR increases in the short term."

Bollard also seems very relaxed about inflation, saying underlying inflation currently is below 2.5%.

Stephen Toplis at Bank of New Zealand says the central bank has sent an inappropriate message on inflation.

"It seems to be in complete denial that there's any inflationary pressures in the economy," Toplis says. "We don't share that view."

On the one hand, the statement was "very aggressive" in implying Bollard will soon raise the OCR by 50 basis points, but on the other hand, this message was contradicted by his statement on the high currency, Toplis says. BNZ is now predicting Bollard will raise the OCR to 3% in September - previously it was forecasting two 25 basis point rises in quick succession.

However, Robin Clements at UBS New Zealand says: "there's no sense of the finger on the trigger. That rules out (an OCR hike in) September."

The currency strength is likely to persist and, even if the US politicians manage to stitch up a deal, "the problem hasn't gone away."

Like Greece, the US government is likely to be running fairly austere fiscal policy, which isn't great news for New Zealand exports, Clements says.

Highlighting the bob-each-way nature of the statement, Dominick Stephens at Westpac interprets the statement as signalling a 50 basis point rise in the OCR in the near future but that the OCR will then remain at 3% for some time if the currency remains high and the global problems persist.

However, Stephens is expecting the global risks will recede and the currency will weaken.

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