Growth ahead at 'respectable pace'

The economy will grow at a "respectable but not explosive pace" this year, with the Reserve Bank expected to lift interest rates by April, according to ASB Bank forecasts.

ASB chief economist Nick Tuffley is forecasting growth of 2.5 per cent for the calendar year, in a progressive recovery. The economy shrank more than 3 per cent in the recession that ended in the middle of last year.

Growth would be boosted by a rebound in inventory levels, but underlying demand would pick up at a more modest pace, so recovery from recession would be gradual, he said.

This year would see stronger house building, and the robust Australian economy would help New Zealand exporters, as well as the recovery in much of Asia. But the pace of recovery in New Zealand is more likely to be progressive rather than sharp," Mr Tuffley said.

Normally there is a steep bounce out of a deep hole of recession. But this time the recovery would be tempered because it is harder to borrow internationally.

New Zealand would need to compete to borrow its share of the pie, ASB said, especially as the government needed to borrow more.

New Zealand households were also expected to spend with money they have, rather than borrow to spend. The economy could also face a handbrake from government restraint on spending as it repays debt.

But a sign that the economy is getting back to normal would come when the central bank started to lift official interest rates, with the first move expected in April – but no sooner, Mr Tuffley said.

The Reserve Bank is expected to move from an "unsustainably low" level of 2.5 per cent to a "neutral" level of about 5 per cent, moving up in 25 basis point jumps.

In more normal times a "neutral" interest rate was about 6.25 per cent, neither boosting nor suppressing the economy.

But because of the lingering effects of the financial crisis and the global competition to borrow money, the official cash rate would need to return only to about 5 per cent by early 2012, ASB said.

But the 250 basis points of increases to come would probably have a powerful impact on lending rates and household behaviour,.

Borrowers had been attracted by cheaper short-term interest rates, so they would be more sensitive to a rise in those interest rates as a result of a higher official cash rate.

Because the New Zealand official cash rate was expected to rise in the second quarter, ahead of the United States Federal Reserve in the third quarter, the New Zealand dollar was expected to rise in the short term.

Just how much of a lift would depend on the lead time the Reserve Bank had on the US Federal Reserve.

But once the US started raising its interest rates, the US dollar would start to recover and the New Zealand dollar would taper off, ASB said.

- © Fairfax NZ News