Inflation in New Zealand slowed more than anticipated in Q2 to its weakest in three years, despite ongoing domestic price pressures.

Annual inflation dipped to 3.3% from 4% in Q1, according to the latest report by Statistics New Zealand on Wednesday in Wellington.

Economists had forecast a figure of 3.4%, whilst the Reserve Bank of New Zealand (RBNZ) expected 3.6%. 

Consumer prices increased by 0.4% compared to three months earlier, slightly below the 0.5% estimate predicted by economists.

While headline inflation is slowing down, today’s report indicated persistent pressure in domestic prices, including rents, insurance, and local government fees, which may worry the central bank, Bloomberg reports.

The New Zealand Dollar strengthened as traders lowered expectations that the central bank might cut interest rates at its next policy meeting on 14th August.

At the time of writing, the New Zealand Dollar bought 60.70 US cents in Wellington compared to 60.50 cents previously.

As it stands, investors now estimate a 48% chance of a rate cut in August, down from just over 50%, but still anticipate at least two reductions by November, according to swaps data.

Last week the RBNZ held the Official Cash Rate at 5.5%, but surprised markets by recognising signs of an increasing economic downturn, stating tight monetary policy may be curbing demand “more strongly than expected.” 

The central bank expressed greater confidence that inflation will return to its 1-3% target range this year, increasing speculation that rate cuts could begin within months.

“We see headline inflation landing in the central bank’s target range this quarter, giving the RBNZ breathing room to start easing the Official Cash Rate from November. But that is far from certain. We first need to see more encouraging signs from domestic inflationary pressures,” said Shannon Nicoll, associate economist at Moody’s Analytics.

Furthermore, annual non-tradables inflation, a key indicator of domestic price pressures, edged down to 5.4% in Q2, down from 5.8% in Q1. The RBNZ had projected 5.3% in its May forecasts.

National Australia Bank strategist, Rodrigo Catril said the inflation report was mixed and a rate cut in August was too close to call.

“On the positive side, headline is still approaching target range, increasing confidence annual CPI will be in the band in the third quarter. But the RBNZ is a true inflation-targeting bank and it will be concerned at the slow progress seen in non-tradables inflation,” he said.