New Zealand’s Reserve Bank kept interest rates unchanged at 8.5 percent today despite its expectation that inflation will continue rising, to above 4%.

The bank believes a combination of slowing growth and falling house prices will help bring the country’s inflation rate down in the medium term without further interest rate hikes.

As far as house prices go, the bank said:

“From their peak in 2007, nominal house prices are assumed to fall by about 13 percent.”

Given that New Zealand’s property market peaked in November 2007 at an average house price of $352,000 we can project that the bank believes New Zealand’s average house price will fall to $306,000 by 2010.

The bank hinted that prices might fall more sharply though, adding:

“The speed with which the housing market has already slowed raises the risk that house prices will fall more quickly than we have assumed.

“There is also likely to be significant regional variation in the housing market, with some regions experiencing larger corrections than others.

“Further out, an eventual easing in mortgage rates is expected due to lower official interest rates and improvement in global credit market conditions.