The Official Cash Rate has hit 1 percent, increasing by a quarter of a percentage point from 0.75 percent, the Reserve Bank confirms.
Marking the third successive 25 basis point cash rate rise, it comes after the Official Cash Rate came off its emergency 0.25 percent setting in October, put in place at the start of COVID-19.
Delivering the first Monetary Policy Statement of 2022, the Reserve Bank said on Wednesday global economic activity is generating rising inflation pressures, aggravated by ongoing supply disruptions.
Employment is now above its maximum sustainable level, unemployment falling to a record-low 3.2 percent in the December 2021 quarter.
"The Monetary Policy Committee today increased the Official Cash Rate (OCR) to 1 percent," the statement reads.
Bond holdings under the Large Scale Asset Purchase (LSAP) programme, aimed at lowering borrowing costs for households and businesses, will start to be gradually reduced.
Annual inflation, the rate at which prices for goods and services rise, accelerated to a three-decade high of 5.9 percent in the December 2021 quarter.
The Reserve Bank expects annual inflation to peak at 6.6 percent in March, returning to its 1 to 3 percent target range in mid-2023.
"The level of global economic activity is generating rising inflation pressures, exacerbated by ongoing supply disruptions."
"The pace of global economic growth has slowed however, due to the general elevated uncertainty created by the persistent impacts of COVID-19, and clear signals that monetary conditions will tighten over the course of 2022," the statement reads.
The Omicron outbreak will disrupt economic activity and people’s ability and willingness to work and spend will be influenced by health outcomes, the central bank said.
Overall, the NZ economy continues to be resilient during the COVID-19 pandemic.
"Export prices have remained high, supported by the solid international economic recovery. Domestic spending and investment have also been robust," the statement reads.
House price growth is expected to slow over the coming year. Reserve Bank forecasts show a 9 percent decline in house prices, from the end of 2021, to mid-2024. It's forecast reflects higher interest rates, increased new build supply, low net migration, Government tax changes and loan-to-value ratio (LVR) restrictions.
Summing up the Reserve Bank statement, Infometrics principal economist Brad Olsen referred to the 25 basis point cash rate hike as "disappointing".
Contrary to the "gradual and considered" approach of another 25 basis point cash rate rise, Infometrics was picking a 50 basis point lift was needed.
A 1 percent OCR is a 'stimulatory' interest rate, he said, questioning why the economy currently requires that level of support.
Having adjusted it's peak inflation forecast to 6.6 percent (up from 5.7 percent last quarter), the Reserve Bank has acknowledged that inflation is going to go higher - and stay there for longer.
Referring to the inflation forecast as "concerning", Olsen said there are clear implications for households, whose spending power is being eroded by rising prices.
"We've seen those expectations shift - not only are people seeing those higher costs now, but they expect costs to be higher than they previously did, over the future - that is destabilising," he said.
Given the disruptions it's causing in the economy, Olsen expects the Omicron outbreak to contribute to existing inflationary pressures. Expectations among businesses and households are that inflation won't come down quickly.
"Inflation expectations have shifted and the Reserve Bank is moving too slowly," Olsen added.
The Reserve Bank said it was willing to move the OCR in larger increments if required, over the coming quarters.
Its forecasts show the OCR will move up to around 3 to 3.5 percent towards the end of 2024.