Opinion was divided among economists over whether the Reserve Bank would make its first cut to the Official Cash Rate in August, but what everyone did agree on was that New Zealand’s economy needed the boost. Much to the relief of mortgage holders and businesses across the country, the RBNZ opted for a 25 basis point cut, bringing the current rate down to 5.25%.

Banks were quick to respond by trimming home loan rates across the board, and as part of its updated forecasts the Reserve Bank said in the latest Monetary Policy Statement that it expects the OCR to drop to less than 4 percent by the end of next year, and to 3 percent by mid-2027.

Kiwibank Senior Economist Mary Jo Vergara says the Reserve Bank’s decision could’ve gone either way.

“We were in two minds on the day. We believed that it should start to cut interest rates because that’s what the economy needed, but we weren’t sure, as what they signalled earlier in the year was quite different.”

Vergara says the move was welcomed across the board.

“It doesn't matter if you're a business or a household, there was a need for rate relief to get the economy moving.”

It’s the start of what Kiwibank believes will be a string of OCR cuts.

“It was very dovish. There was a new set of new forecasts and a new OCR track. They’re now expecting inflation to fall back within their target band (1 - 3%) this quarter, which is different to what they had before.”

“Previously they only had inflation falling back to 3 percent at the end of this year. It’s a bit of a shift, and much more dovish outlook, and that's exactly why they've cut interest rates.”

WILL THERE BE MORE CUTS?

Vergara says the wording of the Reserve Bank’s Monetary Policy Statement has indicated this is the beginning of a ‘cutting cycle’.

“What we've always told our clients is that when they decide to start cutting it's a decision to return the cash rate to more neutral settings. Currently the neutral cash rate or ‘Goldilocks rate’ - not too hot or cold, is about 2.75%.”

“We think they'll actually cut the cash rate down to 2.5%, and get it to a place where they’ll maybe have to stimulate the economy a little bit. So, there is potential that they'd go below neutral.”

Vergara believes August’s cut was the first in a twelve step move of 25 basis points per cut.

“We can then expect to hit that neutral interest rate by mid 2026, maybe early 2027 so there’s going to be two years of cuts coming.”

COULD THE RESERVE BANK GO BIGGER?

Right now, Vergara says Kiwibank is picking each of the 12 consecutive cuts to be a 25 basis point cut and says a 50 point cut is unlikely, but not impossible.

“Every time the Reserve Bank has announced a 50 basis point cut, it's usually been in a time of emergency, like the Christchurch earthquakes. That usually signals a dire outlook.”

“But markets saw the RBNZ meet market expectations in August and make a cut, so now they’re challenging the Reserve Bank to maybe do another 50, so that would be 75 basis points of cuts until the end of the year.”

Another argument is that the next meeting in November is a double meeting.

“Because you've got such a big gap between then and February they might do a 50 in November to make up for that, or they’ll come back next year and because of the lag go 50 then.”

Vergara says what’s more unlikely is the pendulum swinging in the opposite direction.

“I think with all the data, it’s pointing to the fact that we’re now in a cutting cycle. If the data comes out where the economy is actually very, very strong, which seems unlikely, the case is that they'll just hold or pause.”

WHAT SHOULD I DO WITH MY MORTGAGE?

Kiwbank says a lot of customers are positioning themselves on either a 12 or 18 month rate.

“That seems to be what people are going for, with the expectation that this time next year rates will be even lower.”

Because cuts to OCR, also means cuts to retail interest rates too.

“The OCR is your base rate, and it sets the rate for all other rates in the economy, including lending rates and deposit rates. As the Reserve Bank delivers more cuts, we'll see wholesale rates fall, and retail rates should fall along with that.”

“We should see this time next year that retail rates will be significantly lower than where they are today.”

Vergara says there’ll always be a margin between wholesale and retail rates, so you’re unlikely to pay the exact same rate as the OCR, but you’ll definitely be paying much less as time passes and more cuts are made.

It’s important to also think about test rates and the impact they might have. These are the rates which a bank tests your ability to service a mortgage, and often stretch far higher than the current retail rates.

“Back in covid, they were quite low given the environment, and they were lifted quite high to around 9 percent to make sure that borrowers could service the debt.”

“They will probably move around now. I think it will be lower, but it will always be in a way that'll ensure our financial system is still safeguarded.”

So, what kind of retail rates can we expect this time next year?

“I think high fours or low fives is kind of where we’re going. It's always hard to give a point estimate, because there's so many forces that drive those retail rates, but the trajectory is very much lower.”