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

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  • Natalie Labuschagne
  • Polly Vowles

    ()
    (The Treasury)

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    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.

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    File URL: http://www.treasury.govt.nz/publications/research-policy/wp/2010/10-09/twp10-09.pdf
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    Bibliographic Info

    Paper provided by New Zealand Treasury in its series Treasury Working Paper Series with number 10/09.

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    Length: 27
    Date of creation: Dec 2010
    Date of revision:
    Handle: RePEc:nzt:nztwps:10/09

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    Postal: New Zealand Treasury, PO Box 3724, Wellington, New Zealand
    Phone: +64-4-472 2733
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    Web page: http://www.treasury.govt.nz
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    Related research

    Keywords: Real interest rates; neutral interest rate; real exchange rates; Uncovered Interest Parity; internal balance; external balance; saving;

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    1. Michal Brzoza-Brzezina & Jesus Crespo Cuaresma, 2008. "Mr. Wicksell and the global economy: What drives real interest rates?," Working Papers, Oesterreichische Nationalbank (Austrian Central Bank) 139, Oesterreichische Nationalbank (Austrian Central Bank).
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