* Inflation pressures seen growing over next two years
* NZ houses overvalued, unlikely to fall much; LVR limits
* NZ dlr considerable headwind, unsustainable long term
(Adds quotes, detail, market reaction)
CHRISTCHURCH, New Zealand, Jan 31 New Zealand's
central bank said on Friday that interest rates must rise as
soon as March to counter rising inflation pressure from high
commodity prices and strong housing and building markets.
"In this environment, there is a need to return interest
rates to more normal levels and the Bank expects to start this
adjustment soon," Reserve Bank of New Zealand Governor Graeme
Wheeler told a business group in Christchurch.
His remarks repeated comments made on Thursday when the RBNZ
held its official cash rate at a record low 2.5 percent, the
level it has been at for nearly three years.
Wheeler repeated his view that the strong New Zealand dollar
was a "considerable headwind" for the economy, and not
sustainable at current levels in the long run.
The New Zealand dollar, buoyed in recent months by
the prospect of higher interest rates, fell following his
remarks, dipping to a low around $0.8147 from $0.8178.
Wheeler said the speed and size of rate rises would be
influenced by many factors, including the terms of trade, which
are at 40 year highs, the high exchange rate, and price
pressures from the building and housing sectors.
"Although headline inflation has been moderate, inflationary
pressures are expected to increase over the next two years,"
Wheeler said, adding the bank aimed at keeping inflation near
the 2 percent midpoint of its target range.
Most economists anticipate the New Zealand tightening cycle
will begin in March, after a string of strong data showed the
$170 billion economy growing faster than the RBNZ's forecast,
while inflation was approaching its 2 percent target.
A Reuters poll taken after the decision found 16 of 17
economists seeing a rate rise in March.
Wheeler said inflation pressures were an important risk to
New Zealand's continued expansion, and a rise in interest rates
was needed to contain them.
He noted, however, that restrictions on low-deposit home
loans last year appeared to be moderating turnover and prices,
although household debt levels were rising again.
Housing was overvalued but a substantial fall in prices was
seen as unlikely.
Wheeler said offshore threats to New Zealand's expansion
included a faltering in the recovery in the euro zone, and a
rapid build up of debt in China, now New Zealand's top export
New Zealand's terms of trade could be expected to come off
their highs, and the current account deficit could be expected
to deteriorate - but not enough to provoke a severe reaction.
(Reporting by Gyles Beckford in Wellington and Naomi Tajitsu in
Christchurch; Editing by Paul Tait and Eric Meijer)