The Reserve Bank of New Zealand's (RBNZ) semi-annual Financial Stability Report said weakness in domestic economic activity had become more pronounced and a combination of subdued global growth and high interest rates had reduced demand.

"Rising unemployment is starting to create acute financial difficulties for some households," it said.

It added that businesses were experiencing lower profitability and weak demand, and lingering cost pressures had made the trade environment more difficult for firms.

Over the past two years, the country's economic growth had fluctuated, occasionally dipping into negative territory.

The RBNZ expects that the economy contracted in the third quarter, as it raised the cash rate to temper demand and bring down inflation. Unemployment is on the rise and sentiment remains subdued.

Since August, the central bank has cut the official cash rate by 75 basis points as inflation eased.

RBNZ Governor Adrian Orr told a press conference that the real economy was lagging the interest rate cuts and getting through that lag was a concern.

"You don't want surprises or shocks to the downside during that period," Orr said.

While the economy was struggling, the central bank said the country's financial system remained resilient and that risks to the system remained contained.

The RBNZ said banks are anticipating a slight increase in non-performing loans though still below levels seen in previous recessions.

"New Zealand banks are well positioned to continue supporting households and businesses, including effectively handling any potential loan defaults," Deputy Governor Christian Hawkesby said.