New Zealand raises key interest rate; exports surge

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By Srikanth Srinivasa | June 11, 2010 3:19 AM EST

New Zealand’s central bank on Thursday raised its benchmark interest rate by 25 basis points for the first time in three years to contain inflationary pressures as the country’s economy was entering its second year of recovery.

Reserve Bank of New Zealand Governor Alan Bollard raised the official cash rate to 2.75 percent from a record-low 2.5 percent and raised its inflation forecast to 5.3 percent next year in the wake of higher prices boosted by increase in sales tax.

This decision is in sharp contrast with central banks in Indonesia, Philippines and Thailand who kept their borrowing costs unchanged last week due to European debt crisis. Australia’s central bank had also kept its overnight cash rate target unchanged since April.

However, Canada’s central bank -- Bank of Canada, recently raised its interest rates by 25 basis points to 0.5 percent. Canada is also the first country among the Group of Seven industrialized nations to raise interest rates since the global financial crisis struck in 2008.

Reserve Bank of New Zealand had kept the benchmark rate unchanged since April 2009 and it last raised borrowing costs in July 2007.

Bollard said it is appropriate to gradually remove policy stimulus given the current low level of cash rate, adding that the underlying inflationary pressures are expected to increase.

“The further removal of stimulus will be reviewed in light of economic and financial market developments,” he said in a statement.

The country’s central bank expects it won’t need to raise the cash rate as high as in previous cycles because bank funding costs are higher, long-term interest rates are higher than short-term interest rates, and a greater proportion of borrowers use floating rate mortgages.

In May, Finance Minister Bill English had hiked the country's sales tax rate to 15 percent from 12.5 percent effective Oct. 1, increasing all prices by slightly more than 2 percent.

The governor of the central bank faces a threat from rising prices as the bank is required to keep inflation between 1 percent and 3 percent.

The central bank said by March 2012 inflation will reduce to 2.8 percent. “Underlying inflation is expected to track within the target range even as the economy expands further,” Bollard said. “Provided households and firms do not reflect the price spike in their wage and price-setting behavior we do not expect a lasting impact on inflation,” he said .

“New Zealand’s export commodity prices have increased sharply over the past few months, boosting export incomes,” Bollard said. Exports make up 30 percent of New Zealand's economy.

However, Reserve Bank of New Zealand forecasts private consumption growth will slow over the next two years, and the housing market will be subdued.

Gross domestic product will rise 3.8 percent for the year to March 31, slower than the 4.4 percent annual pace forecast in March, the central bank said. Growth will slow to 2.9 percent in the year through March 2012, the bank said.

The central bank expects employment increase by 33,000 in the first half of 2010.

Meanwhile, New Zealand export prices hit a 10-year high in the three months through March as the currency fell and demand for dairy products rose.

For the first time in five quarters, export prices rose 10.3 percent in the three months to March 31 from the fourth quarter, the biggest rise since 2000, Statistics New Zealand said. This rise was led by a record 32 percent jump in dairy prices, the report showed.

Here are some key facts:

 -- Unemployment rate down to 6 pct in Q1 from 7.1 pct in last three months

 -- Terms of trade index up 5.9 pct

-- Butter prices up 48 pct from Q4

-- Meat, aluminium, log prices up

-- The terms of trade index, which measures the amount of imports New Zealand can buy from a fixed quantity of exports, is recovering after slumping to the lowest level in more than five years in 2009.

-- New Zealand currency down 0.3 pct in Q1 against other currencies

-- Import price index rises 3 pct following a 9.6 pct rise in fuel

 -- Import price index excluding fuel up 3 pct.

 -- Export volumes up 3 pct, for the fifth time in six quarters,

 -- Shipments of logs and fruit rise 

-- Dairy volumes decline 2.1 pct

--  Import volumes gain 2.8 percent.

-- Consumer buying on debit, credit, store cards up 0.4 pct in May from April spurred by labor market recovery

 --  Spending on furniture, appliances and other durable goods up 0.8 percent

-- Apparel purchases up 2.4 percent

 --  Fuel sales fall 5.3 percent.

--  Value of transactions on electronic cards up 0.4 percent from April

 --  Transactions up 1 percent, excluding spending at fuel outlets and car workshops.

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