RBNZ: Aggressively on hold – BNZ

Stephen Toplis, Head of Research at BNZ, explains that the RBNZ is stuck in neutral as any increase in interest rates is seen as simply not plausible given that inflation continues to sit below the RBNZ’s target band mid-point.

Key Quotes

“On the other hand, low (and, indeed, falling) inflation is not seen as sufficient to cut rates as (a) it’s seen as transitory and (b) the economy simply does not need any more stimulus at this juncture.’

“On the latter point, it is notable that the RBNZ has slashed its short term inflation forecasts, forecasting annual inflation to now slump to 0.7% by March 2018. This reflects a combination of the lower starting point for inflation, a higher NZD and fallen petrol prices. This might have been an excuse to cut rates in the past but this was never going to be the case this time around as the RBNZ maintained its focus on the medium term outlook for prices. Ironically, the current forecasts have annual inflation returning to the mid-point of the band a quarter earlier than previously in March 2019.”

“If the expected drop in inflation was to feed through into lower inflation expectations and lower wage growth then the Bank might respond but this would be a while down the track.”

“For those in the dovish camp looking for the possibility of rate cuts, the RBNZ’s alternative scenario where domestic demand proves weaker than forecast might offer some solace. According to the Bank a modest weakening in private consumption and residential investment (relative to its forecast) would result in a substantially lower cash  rate. We think it’s highly likely that both private consumption and residential construction disappoint the Bank. We are less sure that this disappointment will result in lower inflation than the Bank is forecasting but, given its clear focus on domestic demand, we will be watching developments on this front very closely.”

“The flipside scenario for the RBNZ is that global inflation proves higher than anticipated. We think this too is plausible but less likely than the weaker growth scenario. Where there may be some extra inflationary pressure, however, is via the currency. The RBNZ clearly put its forecasts to bed when the NZD was flying at its highest. It has since fallen to the extent that the current TWI of 77.8 is now slightly below the levels the RBNZ had built into its forecast track.”

“We had said, going into this statement, that we were keen to formally push out our forecast for the first RBNZ rate hike but would wait to see if the RBNZ blind-sided us with this MPS. It didn’t, so we will nudge our call back from May to August 2018 - still well ahead of the RBNZ’s expectation but not substantively different to market. The market is looking for a September move but that, almost certainly, won’t happen as the RBNZ prefers to go at MPSs. That means August or November. September pricing will simply be markets having a bob each way.”

“Overall then, the statement was very much a nonstatement. At the margin, perhaps more interesting, at least to us, was Governor Wheeler’s acknowledgement in his press conference that weak inflation is very much being driven by structural factors. That is a view that we have been running for some time. And if this is the case then one must again question the need for central banks to fight against something that is neither controllable by domestic monetary policy nor, at its core, a worrisome economic development. But that’s a debate for another time.”

“For financial markets, there was nothing to get excited about in today’s statement. There was an inconsequential reaction from both the fixed interest and foreign exchange markets.”