Where to for interest rates?

Where to for interest rates?

economists expect that Governor Graeme Wheeler will cut it. They think he will want to wait for more economic data.

If there is no cut to the OCR it is possible we might see some mortgage rates rise a little. Even if there is a cut to the OCR the trading banks may not pass all of that rate-cut on to their customers.

That's because banks are having to pay more to borrow money offshore. Around 40 percent of the local mortgage money is sourced from overseas funding.

Offshore bank-to-bank lending rates are ticking up because of increased nervousness about bank profits. It means that when the banks lend money to each other they are demanding a higher return for the risk they believe they are taking on.

Economists at BNZ say that globally we are seeing "rising credit spreads and increased pressure on New Zealand bank funding costs. This could result in increased borrowing rates which many suggest would need to be offset by a lower cash rate."

But "even if the cash rate was cut in this environment would banks pass on the cost reduction or use it to rebuild margins?"

This is a reminder that events that happen offshore do have an impact here, whether we like it or not. When a European bank downgrades its forecasts for future profits that can have a flow-on effect in the New Zealand market.

And New Zealand is not alone.

Economists at ANZ say credit default swaps for large Australian corporates have gone up 30 basis points since the start of the year and are 70 basis points higher than this time last year. Credit default swaps are a measure of the risk that lenders believe exists in the financial markets.

ANZ says credit default spreads have gone up 50 basis points for the Australian banks since the start of the year. ANZ says this signals "a more difficult funding environment."

Typically, with inflation at almost zero the Reserve Bank would want to cut the OCR to try to stimulate the economy. Especially at a time when it believes that the New Zealand dollar is overvalued.

But a rate cut could fuel the hot Auckland property market. Just at a time when it does look like Auckland's property prices are starting to ease.

There are also plenty of signs that the economy is performing well.

Tourism and construction are strong.  Real wages are starting to rise. Immigration is at record levels and the employment numbers are growing.

But dairy prices have slumped and there is growing concern about the ability of some farmers to pay their mortgage costs.

BNZ's latest research note sums it up: "Does all this sound very confusing? It sure is to us!"

But like other economists, BNZ has to make a call on what it thinks the Reserve Bank will do on Thursday.

It believes the bank will hold steady because "it simply has insufficient information and risks looking silly in the event that measured inflation begins to turn up."

There is a great deal of economic data coming out in the next few weeks. BNZ believes the Reserve Bank will want to see that data before it acts.