Official data out on Thursday shows gross domestic product (GDP) fell 0.9 per cent in the second quarter from the prior quarter, worse than analysts' and the Reserve Bank of New Zealand's forecasts of a 0.3 per cent fall.
New Zealand's economy has contracted in three of the last five quarters.
Annual GDP decreased 0.6 per cent, Statistics New Zealand data showed. The market had expected it to remain unchanged.
Following the weaker-than-expected data, two-year swap rates slid 10 basis points to 2.7290 per cent, their lowest since early 2022. The kiwi dollar fell 0.5 per cent to $0.5932, well off an overnight peak of $0.6007.
The market is now pricing in a further 58 basis points of cuts to the official cash rate (OCR), up from 48 basis points before the GDP data was released and a 20 per cent chance the central bank will cut by 50 basis points in October.
In August, the central bank flagged two more rate cuts in 2025 as it noted spending by households and businesses has been constrained by uncertainty, falling employment, higher prices for some essentials and declining house prices.
"The weaker-than-expected GDP outcome will no doubt encourage the RBNZ in its intentions to cut the OCR further this year," Westpac senior economist Michael Gordon said in a note.
Westpac is now expecting the central bank to cut by 50 basis points in October and by a further 25 basis points in November.
Weakness in the economy was across the board with the construction sector remaining in decline, manufacturing hurt by slowing goods exports and the service sector remaining weak as tourism stagnates.
The economy has been further hurt by a decision by the United States in April to levy import tariffs on products from a range of nations including New Zealand.
The tariff has since been set at 15 per cent, above the 10 per cent rate for goods from neighbouring Australia.
New Zealand's Finance Minister Nicola Willis said international turmoil and uncertainty relating to tariffs clearly had an impact on firms' and households' willingness to make investment decisions.
But there are indications the economy has begun to turn the corner in the third quarter, with manufacturing and services indexes along with monthly employment and card spending data improving slightly.
ANZ senior economist Matthew Galt said in a note that signs growth has returned in the third quarter, albeit in a muted manner, suggest the nation will avoid another technical recession.
Galt added that while the bar was higher at the end of a monetary policy cycle for outsized moves if data remained lacklustre over coming weeks, a 50 basis point cut was absolutely a possibility.
