The banks are demonstrating that they won't hike interest rates just because the Reserve Bank would like them to - so it might be better for the RBNZ to adopt more of a waiting game

The Reserve Bank, it seems, is being given a pretty clear message by the banks.

The message is that they (the banks) won’t be dragged by the nose into moving their interest rates simply because the RBNZ might want them to.

A week on now from the RBNZ’s surprise 50 point jump in the Official Cash Rate to 5.25% we've finally seen a reaction from one of the banks - the largest as it happens.

But the moves from the ANZ are pretty selective and to me have an air of being a bit political - let's get this central bank off our backs! The biggest move is in the floating mortgage rate, up 40 basis points, while fixed mortgage rates have risen by up to 20 bps, but only for terms of two years or less. Two year rates are popular and its worth noting that the 14 bps rise to the ANZ 'special', two-year, rate takes it to 6.59%, which is actually 15 bps lower than the ANZ was offering (6.74%) towards the end of January.

Likewise the ANZ has tweaked its deposit rates upwards by up to 25 bps - but again at the shorter end, with nothing over 18 months being touched. ANZ's longer rates (two years and up) are still below where they were in January.

And bear in mind that in January the Official Cash Rate was on 4.25%. Now it is 5.25%. So, 100 bps of tightening from the RBNZ and you've got the country's biggest bank having just raised its two-year fixed mortgage rate to a level that's actually 15 bps lower than it was when the OCR was 100 bps lower.

So, the RBNZ is not exactly getting bang for its buck in terms of reactions from the banks. And that's after a lot of cajoling by the central bank - particularly around deposit rates - after both the February and April OCR reviews.

If the moves by the ANZ - a full week after the last OCR decision - are about as good as it gets in terms of reactions from the banks then will the RBNZ be happy with that?

What we are seeing clearly now is a market setting itself up for high interest rates in the short term (say 18 months), but a sharpish fall off after that.

Will the RBNZ be satisfied that such a market rate structure will put its efforts to get inflation back into the targeted 1% to 3% by the second half of next year on track? More to the point, is there much more that it can do other than keep driving the OCR higher and higher? And would that really be wise? 

In fairness, as has been said by others, a prime reason for the effort to blindside the market with the size of the OCR increase last week may well have been to stop wholesale interest rates falling further than they already had – to the point where this could have started to put serious downward pressure on the ‘retail’ rates, IE for mortgages.

But is the RBNZ going to be content with near term retail interest rates remaining high but longer term rates possibly drifting lower - when at this stage we've had inflation running at in and around 7% for over a year? 

It's looking to me like the decision to go for the double rate hike last week was, at best, a waste of time. And at worst? Well, we'll find out.

I suppose the key question is going to be just how long the RBNZ wants/needs mortgage rates to stay at current levels for.

And lets face it, the banks probably want mortgage rates to fall. They’ve become accustomed to house buyers flocking to them seeking mortgage money – and that’s not what is happening at the moment. The banks are having to fight for relative crumbs in the mortgage market. Something they are certainly not used to in recent times.

So, the banks are probably looking for reasons to push rates down.

The RBNZ wants to make sure that even if bank mortgage rates don’t rise more, they at least don’t fall from these levels. But I think the RBNZ is fighting gravity.

The RBNZ was in a great position at the start of this hiking cycle because it had just so much ammo in terms of available rate hikes. Remember, the OCR was just 0.25%! In addition, because so many bank customers had gone very ‘short’ with their fixed term mortgages it meant they would be affected by any rises in rates quite quickly. Great starting position for the RBNZ.

But that huge amount of leeway the RBNZ had has now gone. And it now faces the situation of running short of ammo while inflation’s still way too high and not yet showing convincing signs of coming down.

Of course, there’s no upper limit to what the OCR can go to. There’s nothing to say that the RBNZ has to stop its hiking cycle at the 5.5% level it is currently forecasting.

The OCR, in a history that dates back to 1999, has been as high as 8.25% - a level it sat on for about a year in 2007-2008.

In fact, the current situation is starting to form some interesting parallels with the situation in the mid-2000s. At that time the RBNZ was trying to get traction against inflation by hiking the OCR - but the banks were sourcing loads of cheap funds from offshore, which they were then lending to homebuyers on fairly lengthy fixed rates.

Many mortgage holders were therefore simply impervious to the whole series of hikes that saw the OCR moved up, by a no-doubt frustrated RBNZ, from 5% in 2003 to the aforementioned 8.25% in 2007. How high the OCR might have gone if we hadn’t had the small matter of the Global Financial Crisis to bring everything crashing down is something to idly ponder over.

What the experience in the mid-2000s showed though is that moving the OCR is no guarantee that the banks and the house buyers will do ‘as they are told’.

And, looking forward to the situation now, I think you can expect increasing defiance from this point on.

So, from my perspective last week's double OCR move was a mistake.

You see, unless there was some reason to believe that global interest rates might start putting upward pressure on our wholesale rates here again – and surely the opposite is more likely to be the case – then after the initial shock to our markets, the decline in wholesale rates was always likely to resume. What then?

Effectively all that’s happened is that the RBNZ has wasted 25 basis-points worth of ‘ammunition’ at a time when it is running out of room to make more OCR hikes. It’s much more threatening if you brandish a loaded (but not fired) pistol than if you wave one around that’s just had all the ammo discharged.

So, anyway, to go back to the point about there no upper level at which the RBNZ may take the OCR, if it is really hell bent on keeping mortgage rates up. Yes, that’s true. No upper limit.

However, the OCR has been raised some 500 basis points in little more than a year and a half.

For all that mortgage rate rises have all-but paused, the rates are still considerably higher than they were. The popular two-year fixed ‘special’ rates for new mortgages now average around 6.5% versus only about 2.6% two years ago. Huge increase.

So at some point you would hope there would have to be some sort of pause to allow things to settle and just see exactly what it is the 500 basis points worth of OCR hikes have done.

The fact is we’ve seen interest rates tightened by an incredible amount in a very short time. It is unprecedented in New Zealand and I stick to my view that such a fast tightening is in essence an ‘experiment’. We don’t really know what the longer term consequences might be of such a degree of tightening in such a short space of time.

Despite everything that’s currently visible in the economy, including a still hot labour market and consumers apparently still willingly spending money, there has to be some chance that everything will suddenly tip over.

And remember also that these OCR hikes are not hitting the entire population evenly. People with freehold houses and money in the bank are sitting comfortably.

So, I would argue that what we absolutely don’t need is the RBNZ engaging in some sort of game of chicken with the banks; the RBNZ attempting to bend banks to its will.

I suspect the RBNZ just might have to show greater patience over the next few months and allow itself to see if the tremendous amount of hiking it has already done will have a big delayed effect. I still think it will.

If this all means the RBNZ having to tolerate some easing in bank retail rates then maybe it will have to.

When all is said and done, if inflation really does carry on steaming away then a new series of OCR hikes down the track could be deployed. But for the RBNZ to do that it would be better if it keeps some ammo now.

This now does appear the right time to employ the waiting game. After all, we have no idea if the RBNZ has done enough, the right amount, or too much.