The central bank cut the OCR from 5.75% to 5.25%, double the size of the other three cuts it has made this year.
"We are making this unscheduled interest rate cut primarily because of recent tragic events in the United States," says Reserve Bank governor Don Brash.
"It seems more likely now that the current slowdown in the world economy will worsen. In these circumstances, New Zealand"s short-term economic outlook would be adversely affected, although any downturn might well be relatively short-lived," Brash says.
The extent of the surprise is shown by a Reuters poll of wholesale market participants yesterday. They were unanimous in the view that the Reserve Bank would wait until the scheduled 3 October review date and that it would then cut rates by only 25 basis points.
After wholesale rates plummeted in response, banks were quick to change their mortgage rates, ASB Bank, WestpacTrust and National Bank all cutting their floating rates by 50 basis points to 7.2%.
Fixed rate mortgages are also likely to fall with one to five-year bond yields dropping about 20 basis points.
"New Zealand business and consumer confidence will be hurt by recent international and domestic developments, and today"s move is a precaution in a period of heightened uncertainty," Brash says.
"Our focus, as always, is to keep core inflation in check. Our present judgement is that interest rates do not need to be as high as previously to achieve this," he says.
The uncharacteristic move left practically everyone scratching their heads.
After the US Federal Reserve and the European central bank cut rates on Monday, "the central bank here now looks as if it just wanted to join the party," says Bank of New Zealand. "The (central) bank, in our view, has got caught up in the emotion of the moment."
Nevertheless, BNZ says the cut is justified on economic grounds.
WestpacTrust gave the bank"s move total support. It notes that not since the 1930s has Japan, the US and Europe heading into a synchronised slowdown and that is exacerbated by Asia and Latin America joining in.
Peter Cavanaugh, associate director at Bancorp says although everyone was shocked, it has been taken as "a common sense act. The market reaction has been favourable. It"s positive for New Zealand economic growth," he says.
Ulf Schoefisch, chief economist at Deutsche Bank, says the surprise move introduced "a bit of drama" but that given the uncertainty the global economy faces, "it"s probably quite a sensible move."
Most in the market now expect the Reserve Bank will hold fire on 3 October but that there"s a chance of a further rate cut on 14 November when the central bank releases its latest monetary policy statement.
