Outside odds of 50 basis point rate hike

Financial markets have priced in a 12% chance of a 50 basis point official cash rate hike next week, as the Reserve Bank makes its most highly anticipated decision in months.

Monday, August 9th 2021, 12:09PM

According to ASB's latest Economic Weekly Report, wholesale swap markets give a greater than one in 10 chance of a 50 basis point increase. ASB's team of economists, and those across most other banks, tip a 25 basis point increase next week.

ASB predicts 25 basis point hikes across the next three RBNZ meetings, with the OCR tipped to reach its pre-pandemic level by the end of the year.

However, the team believes the central bank should consider a more aggressive approach.

"And so it would also be worth the RBNZ considering the pros and cons of starting with a 50bps lift," economists including Mike Jones said.

"The traditional argument against is that a double-up can spook markets and cause volatility. But markets are already pricing a 12% chance of a 50bps raise, and we doubt a 50bps lift would surprise the economic consensus.

"Yes, there are risks from the spreading Delta variant. The Australian outbreak is too close for comfort. But the clear and present danger is that the economy continues to overheat, allowing inflation to get away.

"If things change down the track (*touch wood*), the RBNZ can always back off, just like we saw from the Reserve Bank of Australia last week."

The team also cited the housing market as a possible reason for sharper rate increases.

"The other reason to get a fast start is housing. We never bought into the dire predictions for house prices we saw in the wake of the Government’s tax changes. And, indeed, momentum has slowed a little, but not enough.

"Annual house price inflation is still chugging along at a 15-20% annualised pace. This week’s only notable economic data release – REINZ housing figures for July – is likely to highlight the point."

The Reserve Bank last week outlined plans to impose tighter restrictions on high LVR lending, reducing speed limit allocations for riskier lending. Yet the ASB team believes interest rate increases can mitigate risks in the market.

"Using interest rates to douse the housing market is cleaner and potentially less distortionary.

"Making a fast start with interest rates – whether it’s three 25bps hikes in a row or an initial 50bps – might avoid having to play catch up down the line. With one eye on Covid, it seems to be the path of lesser regret."

Tags: ASB house prices housing market Lending OCR OCR forecasts