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Why are Real Interest Rates in New Zealand so High? Evidence and Drivers WP 10/09

Publication Details

  • Why are Real Interest Rates in New Zealand so High? Evidence and Drivers
  • Published: 1 Dec 2010
  • Status: Current
  • Authors: Vowles, Polly; Labuschagne, Natalie
  • JEL Classification: E43
 

Why are Real Interest Rates in New Zealand so High? Evidence and Drivers

Published: 1 Dec 2010

Authors: Natalie Labuschagne, Polly Vowles

Abstract

New Zealand real interest rates have on average over the past two decades been high relative to most other countries in the Organisation for Economic Co-operation and Development (OECD). This paper argues that New Zealand’s relatively high interest rates are currently the outcome of domestic saving and investment imbalances, and are less due to a risk premium being imposed by foreign investors.  That is, New Zealand’s low rate of saving relative to investment make higher real interest rates necessary to maintain inflation within the target range in the face of higher domestic spending. Foreign inflows seek out the interest rate premium, rather than demand it as compensation for risk. Seeking out the higher yield, foreign capital flows into New Zealand and this puts upward pressure on the exchange rate. It is this relationship between the real exchange rate, exchange rate expectations and the real interest rate that has helped to cause New Zealand’s interest rate to deviate from the “world” rate for most of the past two decades.

This Working Paper is available in Adobe PDF and HTML format only. Using PDF Files

Contents

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Foreword

1 Introduction

2 Interest rate concepts

3 The premium on New Zealand’s real rates of interest

4 Drivers of the New Zealand real interest rate premium

5 The interest rate premium and economic performance

6 Conclusion

Appendix A

References

twp10-09.pdf (315 KB) pp.i-iii,1–22

Acknowledgements

The authors would like to thank Michael Reddell (RBNZ), Leni Hunter (RBNZ) and Mariano Kulish (RBA) for many helpful comments and suggestions on various drafts of the paper. Thanks also to Özer Karagedikli (RBNZ) for kindly updating the estimates on the neutral real interest rate and for allowing us to use them.

Disclaimer

The views, opinions, findings, and conclusions or recommendations expressed in this Working Paper are strictly those of the author(s). They do not necessarily reflect the views of the New Zealand Treasury.  The Treasury takes no responsibility for any errors or omissions in, or for the correctness of, the information contained in this Working Paper. The paper is presented not as policy, but to inform and stimulate wider debate.

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