[WELLINGTON] New Zealand's inflation rate rose at its fastest pace in nearly two years in the second quarter, driven by rebounding fuel prices, but underlying inflation pressures remain muted, leaving the central bank room to keep cutting rates.

The consumer price index rose 0.4 per cent in the three months to June 30, following two quarterly declines, official data showed on Thursday. Annual inflation was 0.3 per cent.

The rise was in line with the Reserve Bank of New Zealand's (RBNZ) forecast, and was seen consistent with the bank cutting rates further as the economy slows. "Inflation is very well contained and the Reserve Bank has plenty of scope to continue cutting the Official Cash Rate... they will keep cutting to 2.5 per cent by October," said ASB Bank chief economist Nick Tuffley.

In June, the RBNZ cut its rate to 3.25 per cent because of subdued inflation, said further cuts might be justified.

A slide in consumer and business sentiment over the past two months and slumping dairy prices have prompted analysts to forecast another cut at next week's review, and a third in September to 2.75 per cent. A minority sees a fourth cut by the end of the year.

The New Zealand dollar dropped to US$0.6560, the lowest since July 2009, from US$0.6594 before the data. Interest rate futures were higher.

PETROL HIKE LIFTS INFLATION

The quarterly CPI rise was driven by an 8.8 per cent hike in petrol prices. There was a 0.7 per cent rise in household costs such as rents, and a 1.5 per cent rise for new houses. Domestic airfares and telecommunication costs were lower.

Excluding petrol, consumer prices would have been flat for the quarter, but the government agency said if fuel prices stay at current levels, overall third quarter consumer prices will rise.

The RBNZ looks through short-term price volatility, but remains alert for domestic price pressures - the non-tradables such as housing, electricity and building costs - which rose 0.1 per cent for the quarter and by 2.0 per cent for the year.

Inflation for goods and services facing foreign competition rose 1 per cent for the quarter, to be 2.0 per cent below a year ago.

Price pressures are expected to increase because of a sharp fall in the New Zealand dollar, about 3 per cent since the RBNZ's June statement. This has raised the cost of imported goods and services.

The RBNZ does not expect inflation to return to the 2 per cent midpoint of its target band until the end of 2016.

REUTERS