Reuters Finance News, New Zealand

(Adds analyst comment, updates market prices)

By Kazunori Takada

WELLINGTON, May 8 (Reuters) - New Zealand's employment fell at its fastest pace in nearly 20 years in the first quarter, data showed on Thursday, suggesting labour market tightness was easing rapidly and lifting expectations for an early interest rate cut.

Analysts said the data, which comes on the heels of weaker-than-expected wage figures, highlighted the risk of an economic contraction in the first quarter.

It was also in sharp contrast to Australia's robust jobs report where the rise in employment in April was more than double the amount expected. [ID:nSYU004338]

The New Zealand dollar fell sharply and bills rallied on the data showing employment fell by 29,000, or 1.3 percent, during the January-March quarter, reversing the 0.9 percent gain made in the previous quarter.

It was the biggest quarterly percentage decrease since March quarter 1989 and compared with a 0.1 percent gain forecast by economists in a Reuters poll.

"It's an absolute shocker," said Brendan O'Donovan, chief economist at Westpac.

"With employment normally being a lagging indicator, for a correction of this magnitude so early in this economic downturn augers poorly for household sector prospects.

"It dramatically pulls forward the prospects of an interest rate cut, the market pricing will go towards pricing in a cut for July."

The tight labour market has been a key inflationary concern for the central bank, which said last month it needed to keep rates on hold at 8.25 percent for some time due to persistent inflation, despite significant downside risks to economic growth.

The Reserve Bank of New Zealand is worried that a tight jobs market, rising food and oil prices and increased government spending will fuel inflation, which is already above its 1-3 percent target band.

KIWI SLIDES

The kiwi dollar NZD=D4 plunged around a cent after the data to a three-month low of $0.7715 as the chances of an early rate cut to combat a slowdown increased.

Short-term interest rates rallied strongly, with the yield on the 90-day bank bill NZ90DBB=RNZL 15 basis points lower at 8.63 percent.

The market now currently sees nearly a 50 percent chance of a cut at the central bank's next policy review on June 5, up from around 10 percent before the data was released.

Statistics New Zealand said the unemployment rate rose to a higher-than-expected 3.6 percent from 3.4 percent in the previous quarter, which was its lowest since the survey began in 1986. The number of unemployed rose 5.5 percent over the previous quarter.

The 1.3 percent fall in employment was led by a 1.7 percent drop in full-time jobs especially for women.

Compared with a year ago, employment fell 0.2 percent, its first annual decline since December 1998 and compared with analysts' forecast for a growth of 1.3 percent.

"It's quite clear the labour market has started to turn, and we think Q1 GDP is now likely to be negative, with the prospects for Q2 no better," said Khoon Goh, economist at ANZ-National Bank.

New Zealand's jobless rate has been at low levels as strong immigration gains fuelled domestic demand, creating more jobs and underpinning the robust housing market and consumer demand.

Finance Minister Michael Cullen said on Wednesday the government would lower its economic growth forecasts for the next four years in its budget later in the month to reflect a slowing economy.

New Zealand's economy grew 3.1 percent last year, but growth is expected to slow to 1.7 percent in 2008 before rising to 2 percent next year. See NZGDP1 for details. (Editing by James Thornhill and Jacqueline Wong)