As was widely expected, the Reserve Bank (RBNZ) once again held the Official Cash Rate (OCR) at 2.25% on 27 May. But it was a close thing.
Three members of the RBNZ’s Monetary Policy Committee voted to hold at 2.25%, while three voted to hike to 2.50%—with Governor Anna Brennan the tiebreaker.
That even split perfectly sums up the delicate balance the RBNZ is having to strike at the moment—between what’s needed to support our economic recovery and what’s needed to fight the growing threat of inflation.
Although the RBNZ has opted to hold steady for now, it was careful to stress as part of its commentary that inflation risks are a growing concern. As a result, it's now forecasting interest rate hikes to start sooner than previously indicated, at its last Monetary Policy Statement in February.
At this stage, it’s said it expects to push through one 0.25% OCR hike before September, and that another is likely before December—leaving us at 2.75% to round out the year.
The exact pace at which rate hikes will be delivered is at this point uncertain, and the RBNZ reserves the right to dial up its response, dependent on how inflation figures play out over the next few months.
What’s the broader economic context behind this week’s OCR verdict?
I really don’t envy the RBNZ the balancing act it’s having to strike at the moment.
On the one hand, inflation is undoubtedly tracking higher than we’d like. The latest figures (for the March 2026 quarter) have annual inflation sitting at 3.1%, just outside the upper limit of the RBNZ’s target range.
And that number is expected to rise further over the coming months.
The RBNZ is currently forecasting inflation to hit 4.2% in the June quarter, and peak at 4.3% in the September quarter—as the full impact of the Middle East conflict (and high oil prices) starts to be reflected in the data—before tracking gradually back to the 2% midpoint by mid-next year.
Now, conventional economic wisdom says that, when inflation starts to rear its ugly head, you go hard—and early—with monetary policy (i.e. rate hikes) to stamp it out. End of story.
It’s that conventional wisdom which has seen some bank economists come out in recent weeks, predicting up to eight OCR hikes between now and late 2027 (peaking at 4.25%)—scaring the life out of borrowers, and would-be borrowers, in the process.
The obvious problem with that plan, of course, is that New Zealand’s economy still isn’t in great shape.
We might finally be getting to the tail end of what’s been a pretty nasty recession—but we still need interest rates to stay low for a while yet to encourage investment and help get things back on track.
To throw back to a favourite analogy of mine—there’s no point hiking rates to kill inflation, if it means you’re also killing the patient (i.e. the economy) in the process.
In my mind, there are two really critical things those bank economists have failed to consider:
1 .The forces driving inflation right now are expected to be (largely) temporary.
The Middle East crisis—and the flow-on effect to high oil prices and other input costs—being the main one.
Yes, it’s taking longer than any of us had hoped for the situation to be resolved, but it will happen eventually. And once supply chain pressures begin to ease, those inflationary forces will start to come out again.
The clearest sign to me that this is only temporary is the fact that businesses are using fuel and transport surcharges to help cover extra costs, rather than just hiking their prices.
Surcharges are a way of signalling to customers that “hey, this is a very real cost we’re dealing with right now, and margins are tight—so we’re having to pass it on. Once we’re through this, though, those costs will come out again”.
It’s important to note that, while the inflationary impact of the oil crisis is expected to be largely temporary, that doesn’t mean it’s going to be quick to disappear.
Even if the Middle East conflict were resolved tomorrow, it will take some weeks and months for supply chain and inflationary pressures to ease, and for prices to come down again.
Given the critical infrastructure damage that’s been sustained over the course of the conflict to date, there’s likely to be a degree of oil price inflation that hangs around even once we've resumed ‘normal’ programming.
2. And the economic conditions just aren’t there for inflation to get embedded.
The kind of inflation the RBNZ is really worried about is the type that leads to a wage-price spiral i.e. prices go up, workers demand pay increases to keep up with the higher cost of living, which forces businesses to put their prices up again, and on it goes.
It becomes self-perpetuating.
Right now, with the unemployment rate at 5.3%, and confidence weak across the board, the conditions just aren’t there for that type of inflation to take hold.
Outside of the argi sector, which is still going gangbusters, there’s too much surplus capacity out there.
On the business side of things:
- After doing their best to absorb the pain of the last few years, businesses are now reaching the point where they’re out of runway—and we’re starting to see that flow through to higher numbers of insolvencies and redundancies.
- Margins are tight, and cost increases are hitting hard—but price increases aren’t an option. Basic laws of supply and demand say that when prices go up, demand drops—and given how weak demand is already, that’s the last thing businesses need.
- All the usual uncertainty of an election year—with the fact that no one knows what sort of government we’ll be operating under next year—means big investments feel really risky.
On the consumer side of the equation:
- Even with the relief of lower interest rates, many households are still just trying to get back on a more even footing after the pain of the last few years. They don’t have the disposable income to be opening their wallets
- We’re at maximum debt—which means people can’t go out and borrow to spend either.
- House prices are down—and still falling—leaving homeowners feeling considerably poorer (even if that loss of wealth is only on paper).
- Unemployment’s up, job security doesn’t feel all that great.
- Wage growth is likely to be muted, or non-existent, this year—so people can’t just ask for pay increases to help keep up with the higher cost of living.
What that means is that we’re absorbing cost increases where we absolutely have to (i.e. at the pump) but otherwise, we’re keeping our wallets shut.
What does that mean for mortgage rates & borrowers?
Unfortunately, it does mean interest rates are likely on the up.
Shorter-term wholesale rates in particular are expected to climb off the back of the news—which means shorter-term fixed mortgage rates, of between six and 12 months, can be expected to follow suit.
The right mortgage strategy for each borrower will vary depending on their personal situation—but as a general rule (unless you’re really comfortable with your ability to service higher rates) avoiding shorter-term fixed options is likely to be the best bet for borrowers moving forward.
If you’re already feel stretched—and therefore more sensitive to the prospect of future rate increases—it might make more sense to fix longer-term, even at a slightly higher rate.
In a volatile rate environment, it’s always a good idea to chat with an expert mortgage broker to get personalised advice tailored to you and your financial situation.
About the author: John Bolton (JB), Squirrel Founder & Group Head of Property Finance