The Reserve Bank has stuck to the script by reducing the Official Cash Rate by 50 basis points to 3.75%. The move was met with relief from many Kiwis, and marks the third consecutive supersized cut, bringing the OCR to its lowest level since October 2022. Kiwibank Senior Economist Mary Jo Vergara says the announcement played out exactly as predicted.

“They'd signaled this 50 basis point drop in November and all the data has come in line with their expectations. So, the recent announcement wasn't really a case of whether they'll go with 50 or not, for us it was more about looking at where they are going with the OCR track.”

The Reserve Bank Governor Adrian Orr indicated there are two more 25 basis point cuts to come, taking the all-important rate down to 3.25% by May, but it could dip even lower than that by the end of the year.

“The OCR track signals about a 60% chance it'll go to 3%.”

But Vergara says there could be a couple of pauses before it gets there.

“Slashing to 3.25% in May gets the rate relatively close to the neutral estimate. At that point I think they could hold and wait to cut further in the next quarter. So maybe during November’s Monetary Policy Statement they'll get to 3%.”

“We've always said that it's about getting below 4% quickly and that the Reserve Bank needed to move in quick succession to get there. But once we get to the expected cuts in April and May there is a case for them to take things a bit more gradually which could mean pausing at one meeting, cutting at the next and then pausing again.”

WHAT ABOUT INFLATION?

Inflation currently sits at 2.2% well within the Reserve Bank’s target band of 1-3%, but Vergara says that doesn’t mean the Reserve Bank will put the handbrake on continued cuts to the OCR because the economy still has a lot of recovering to do.

“We could see household spending up a little bit more, but I don’t think that’s the case when it comes to consumer spending.”

“I think many are still trying to rebuild their savings and manage their balance sheets before going out and spending more. Unemployment is also high and still climbing, and that doesn't bode well for job security, so people are still pretty cautious.”

Vergara says what’s more likely to push inflation up right now is geopolitical factors.

“I do think inflation will be quite noisy over the next six to nine months given what’s happening overseas. Obviously, we've had Trump and all his trade tariff talk, and that's really put downward pressure on the New Zealand dollar.”

“We're going to import a bit of inflation from overseas because of that, so we may actually see inflation lift a little in the near term, but I don't think it'll go outside of the target band.”

Even with that potential lift, Vergara doesn’t expect the Reserve Bank to respond by hiking interest rates.

“I think that they’d be more likely to pause and keep rates at 3.25%.”

WHAT’S HAPPENING WITH RETAIL INTEREST RATES?

Banks were quick to respond by slashing short-term mortgage rates, but with the Reserve Bank already pointing towards two more cuts in the coming months Vergara says a lot of that has already been forward priced into rates.

“I think there's a little bit more for retail rates to fall across the two-to-five-year terms, but because markets have mostly already priced it in, there’s not a lot to put through.”

“The Reserve Bank has to surprise markets even more to shunt wholesale rates lower, which would then get fed onto retail rates.”

Vergara says long term rates don’t respond as strongly to OCR movement either because they’re mostly influenced by what’s happening overseas, whereas short term ones are pinned to the rate and the Reserve Bank signaling more cuts.

With the reality that the OCR could be paused after May’s meeting, it’s thought some mortgage holders may start to lock in longer term rates.

“I think we're getting close to that because the expectation is that we're nearing the end of the rate cutting cycle.”

“I think towards the middle of this year we could start to see people jump back onto those two year and five year rates after gambling with the short-term ones. Especially with what’s happening overseas.”

WILL DTIs START TO PINCH?

Debt to income ratios mean exactly that - the amount of debt a borrower has taken on relative to their gross, or pre-tax, income. If you’ve borrowed four times your income, you have a DTI ratio of four. If you’ve borrowed eight times your income, your DTI ratio is eight.

Your total debt will include things such as any existing home loans, personal debts (e.g. car loans), and student loans, as well as the limits of any credit cards and overdrafts, plus any new loans being considered.

Your total gross income will include your annual salary, rental income and other extra income you receive.

Owner-occupiers are limited to borrowing six times their pre-tax income and for investors seven times, but the rules aren’t having any real effect right now, because the banks’ internal servicing test interest rates are doing the job of naturally limiting mortgage amounts.

However, as retail rates come down, so do the test rates which is when DTI’s will start to limit the ability to borrow.

“The second half of the year is when we’re expecting to see more activity in the housing market and investors coming back too, and that's when DTIs will be a bit more of a kind of speed limit.”

WHAT DOES THIS ALL MEAN FOR PRICING?

It might be cheaper to borrow money which increases demand for housing stock, but there’s still an oversupply of listings which means it’ll take some time for prices to increase.

“I think that’ll happen in the second half of the year. Interest rates are the biggest driver for the housing market so once those rate cuts feed through, and investors are more confident in the recovery of the market we’ll start to get through that oversupply a lot quicker.”

But Vergara says we’ll never see what we saw during covid with record high prices and super low interest rates.