The Reserve Bank (RB) has slashed official interest rates an unprecedented 1 percentage point to 6.5 points, opening the way for cuts to mortgage rates but also highlighting the grim outlook facing the global economy.
"Ongoing financial market turmoil and a deteriorating outlook for global growth have played a large role in shaping today's decision," RB Governor Alan Bollard said.
As a result of international developments, economic activity in this country would be even further constrained than the RB was expecting just last month, Dr Bollard said.
"New Zealand can expect to face lower demand for exports and credit is likely to be less readily available."
Dr Bollard also emphasised that, while the RB expected to lower the official cash rate (OCR) further, the timing and extent of reductions in the coming months would depend on evidence of reductions in domestic cost pressures as well as on how global financial developments played out.
The size of today's cut had been widely expected by economists and the market, despite figures earlier this week showing the annual inflation rate hit an 18-year high of 5.1 percent in the September quarter.
The RB is required to keep inflation within 1-3 percent over the medium term, and today Dr Bollard said it now expected the inflation rate to return to the target band around the middle of next year.
Despite that, the RB was concerned that domestically generated inflation, particularly in labour costs, local body rates, electricity prices and construction costs was remaining stubbornly high.
Dr Bollard said consumers and businesses were likely to be more cautious and curtail spending in the current economic environment.
But the reduction in domestic spending would be partly offset by the depreciation of the New Zealand dollar in the past few months, falling oil prices and the recent loosening of fiscal policy.
Six weeks ago, Dr Bollard surprised with a larger than expected 50-basis point cut in the OCR, as he started to bring forward the planned easing cycle to give some relief to businesses and consumers.
The OCR had been held at 8.25 percent for a year until easing started in late July, while the economy sank into recession in the first half of the year.
