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RBNZ’s loan restrictions to stay Wheeler’s hand in next week’s rate review

Friday 6th September 2013

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The Reserve Bank's looming restrictions on low-equity home lending will give governor Graeme Wheeler time to pause and reflect at next week's monetary policy review.

Wheeler will keep the official cash rate at 2.5 percent when he releases the monetary policy statement on Sept. 12, according to a Reuters poll of 15 economists. The key rate hasn't budged since March 2011 when it was cut in response to the earthquakes which levelled Christchurch, although economists are picking a hike to 2.75 percent next March, rising to 3.25 percent by September next year.

The central bank's biggest unknown is the impact its restrictions on high loan-to-value ratio mortgage lending will have on overheated house prices, particularly in Auckland, meaning the regulator will have to wait and see how much it stifles demand. At the same time, fixed mortgage rates have started to creep higher in anticipation of future rate hikes.

Wheeler announced the restrictions last month. They will come into effect from October, saying they would let him keep interest rates lower for longer. The reason the bank has been loath to hike rates in response to the emerging Auckland housing bubble is because it would fuel demand for an already over-valued exchange rate.

"The impact of LVR restrictions on the housing market is highly uncertain, but with inflation currently below target and forecast to rise slowly, the RBNZ has time on its side and can afford to take a back seat while the LVR restrictions work through the system," Westpac Banking Corp chief executive Dominick Stephens said in a note.

A hot housing market has yet to appear in broader inflation, and consumer prices rose at an annual pace of 0.7 percent in the June quarter, below the central bank's target band of between 1 percent and 3 percent. Inflation has been kept low by the strong currency providing cheaper imports and a slow recovery in the labour market, which hasn't fuelled strong wage increases.

Still, the $40 billion Canterbury reconstruction and rising Auckland house prices are seen as a threat to inflation if they fuel national wage hikes and increased consumer spending. Westpac economists warn these are typically associated with rising consumer prices.

"The June quarter consumer price index raised a red flag around construction-related inflation, which was up sharply across the whole of New Zealand rather than just Canterbury," Stephens said. "Clear evidence has emerged to show that households are indeed leveraging up and spending on the back of house price inflation."

In the Reserve Bank's September survey of expectations, firms increased their inflation predictions by about a third of a percentage point, seeing a one-year ahead CPI of 1.9 percent, and two-year ahead expectations of 2.36 percent.

In its June forecasts, the Reserve Bank expected the 90-day bank bill rate, often seen as a proxy for the OCR, to start rising in June next year, with a slightly steeper curve starting in 2015, before reaching 4.2 percent in March 2016.

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