New Zealand's central bank on Wednesday reduced interest rates for the third time in four months and hinted at more significant cuts ahead, including a possible half-point reduction in February, as inflation eased to around the bank's target.

The Reserve Bank of New Zealand (RBNZ) lowered the cash rate by 50 basis points to 4.25%, in line with expectations from most economists in a Reuters news agency poll. 

RBNZ Governor Adrian Orr noted that there had been little discussion about reducing rates by anything other than 50 basis points, offering a reality check to those in the market who had anticipated larger cuts, while signalling the possibility of further easing next year.

“Even with 50 basis points, we remain somewhat restrictive. There's significant output gap, significant spare capacity so 50 basis points felt right,” he said during a news conference.

He also stated that the bank's forward guidance for the February meeting indicated a likely further 50 basis point cut. 

Following the decision, the New Zealand Dollar and short-term interest rates initially rose, as some market participants had anticipated a larger 75-basis point reduction, Reuters reports.

However, these gains were partially reversed as investors refocused on the governor's dovish remarks.

Analysts generally anticipate the central bank will reduce rates by at least 25 basis points in February, but they caution that many factors could influence the decision before the next meeting.

“The RBNZ has left the doors wide open for its future moves, with no attempts to temper market expectations for the pace of future cuts,” said ASB chief economist Nick Tuffley.

“It is also now a three-month gap until the RBNZ next meets, with a full cycle of quarterly domestic data and President Trump’s inauguration in between,” he added.

Furthermore, Orr stated that the bank expects to reach a neutral rate by the end of 2025, which he estimated to be between 2.5% and 3.5%. The neutral rate is seen as neither stimulative nor restrictive for the economy. 

Following the announcement, most of New Zealand's major retail banks reduced their interest rates.

Kiwibank's chief economist, Jarrod Kerr, said that while they expect the central bank to cut rates by only 25 basis points in February, they see potential for further easing in the future.

“We believe rates need to be cut lower than the RBNZ's 2025 forecast track, to stimulate an economy struggling to get out of recession,” he said.

The central bank forecast that economic growth should recover by 2025, driven by lower interest rates that will encourage investment and spending.

However, employment growth is expected to remain sluggish until mid-2025, and financial stress for some individuals may take longer to alleviate.

New Zealand is among several central banks worldwide that have begun cutting rates as inflation decreases. In contrast, neighbouring Australia stands out as an exception, with rate cuts not expected until the first half of next year.