Westpac economists see OCR at 4% by end of next year

Westpac economists are forecasting that the Official Cash Rate (OCR) will hit 4% by the end of next year, as the Reserve Bank (RBNZ) reacts to the using up of the current spare capacity in the economy more quickly than expected.

The Reserve Bank dropped the OCR from 2.5% to 2.25% before Christmas. Its first review of the OCR for 2026 is next Wednesday (February 18). It is widely expected that the OCR will be left unchanged, but that the RBNZ will indicate there will be no more cuts and the next move will be up.

Current financial market pricing suggests about an 80% chance that the first hike will happen in September of this year.

The Westpac economists have for some time been picking the first hike for December.

And in their first economic outlook for the year set to be released on Thursday of this week, the economists are staying with that pick.

But in a preview of the economic outlook issued on Wednesday, Westpac chief economist Kelly Eckhold’s saying that after a quiet start to the next hiking cycle, the RBNZ will step things up next year – and Westpac economists think there will be SIX hikes next year (a total of 150 basis points) taking the OCR up to 4% by the end of 2027. It will then increase to 4.25% early in 2028 and that will be the peak for this cycle.

“Excess capacity will likely be exhausted by early 2027 implying a need for the RBNZ to return the OCR to neutral levels more quickly in 2027,” Eckhold said.

The Westpac economists are assuming that the so-called ‘neutral OCR’ – the level that is neither stimulatory nor restrictive for the economy – is about 3.75%. At 2.25% now the OCR is uniquivocally stimulatory as the RBNZ looks to push along the fledgling economic recovery.

Eckhold says the RBNZ will take time in 2026 to be sure the recovery takes hold and as headline inflation falls towards 2%.

“Interest rates will remain stimulatory for all of 2026 and early 2027 and will drive a need for modestly restrictive conditions over 2028.

“We continue to assume a neutral OCR of 3.75%. Hence to achieve restrictive levels, the OCR will need to peak at 4.25% in early 2028,” Eckhold said.

He notes that the RBNZ currently sees the neutral OCR in the 3%-3.5% range, lower than where the Westpac economists see it.

“Hence, any way you cut it, there will be quite a bit of action required to even achieve neutral levels from December 2026. Fast action will be required given excess capacity should be exhausted by then.”

Therefore the Westpac economists have revised up their view of how quickly the RBNZ will lift the OCR over 2027.

“We expect a standard cycle where the OCR is raised by 25bp at each meeting from February to September 2027, by which time the OCR will have reached our view of the neutral OCR.

“From September 2027 we see a slower pace of OCR increases as at this stage policy will be moving into restrictive territory.

“We think at this point just modestly restrictive interest rates of around 4.25% will be ultimately required to keep inflation close to 2%.”

The Westpac economists see the OCR remaining at 4.25% over 2028 before returning to a neutral 3.75% setting in 2029.