Introduction to Inflation
Inflation is a persistent and annoying visitor that has returned once again. After reaching a peak of 7.3% in the June quarter of 2022, it had seemed to be under control, but now it’s back. This is the same inflation that necessitated the Reserve Bank of New Zealand (RBNZ) to increase the Official Cash Rate from 0.25% in October 2021 to 5.5% in May 2023.
Effects of Inflation on Mortgage Rates
As a result of inflation, mortgage rates reacted accordingly. The average one-year fixed ‘special’ rate, for example, was at 2.2% in mid-2021 but peaked at 7.3% by the end of 2023. This led to a short, sharp recession in the mid-part of 2024, with GDP shrinking by 1.0% in each of the June and September 2024 quarters.
The RBNZ’s Response to Inflation
The RBNZ started reducing the OCR from its 5.5% peak in August 2024, with six consecutive cuts down to 3.25%, and then paused on July 9, 2025. However, with inflation returning, the question is, how bothered should we be, and how bothered might the RBNZ be? The RBNZ’s Monetary Policy Committee (MPC) noted that annual consumer price inflation will likely increase towards the top of the target band over mid-2025, but headline inflation is expected to remain in the band and return to around 2% by early 2026.
Understanding the RBNZ’s Statement
The RBNZ’s July 9 statement is significant, as it acknowledges the temporary spike in inflation but also indicates that it will not stop the RBNZ from lowering the OCR again. The key sign-off sentence in the press release states that if medium-term inflation pressures continue to ease as projected, the Committee expects to lower the OCR further.
The Impact of Tariffs on Inflation
The RBNZ also noted that heightened global policy uncertainty and tariffs are expected to reduce global economic growth, which will likely slow the pace of New Zealand’s economic recovery, reducing inflation pressures. This is seen as a good news-bad news situation, as the economic recovery has been delayed, which may lead to lower inflation.
The Current State of the Economy
The economic recovery is looking a bit wobbly, with the March quarter GDP growth coming in at 0.8%, but the June quarter might have been closer to zero or even below. The BNZ-Business NZ Performance of Manufacturing (PMI) and Performance of Services (PSI) indexes tanked in May, which could have been a knee-jerk reaction to the original April tariff announcements.
The Outlook for Inflation
The RBNZ forecast GDP growth of 0.3% in June and then just 0.2% in September, so a stalled recovery is not expected to surprise the RBNZ. However, the potential strength of domestic inflation is looking a little surprising, with food prices surging to an annual rate of 4.6% and power prices also rising. This could lead to another wave of inflationary expectations, which the RBNZ has worked hard to head off.
Conclusion
In conclusion, the RBNZ is aware of the returning inflation and its potential impact on the economy. While the RBNZ expects to lower the OCR further, it will need to balance any upside surprise in the CPI against the signal from the high-frequency data, which is currently pointing to a stalling recovery and therefore downside risks to the medium-term inflation outlook. As ANZ senior economist Miles Workman notes, it would take a sizable upside surprise in the CPI to take an August OCR cut off the table. The RBNZ will be closely watching the CPI data, and any signs of rising inflation expectations, to determine its next move.
