RBNZ expected to hold rates, focus on economic outlook

The Reserve Bank of New Zealand (RBNZ) is anticipated to keep the official cash rate (OCR) steady at 5.50% during its 22 May meeting, ING analysts said today.

Market participants will be paying close attention to the Bank’s new economic projections and any changes in its forward-looking statements. Unlike its peers, the RBNZ operates with less frequent policy announcements and relies on quarterly inflation and job data, which can lead to swift shifts in its policy stance.

Inflation in New Zealand has been persistently high, with non-tradeable inflation, a particular area of concern, registering at 5.8% in the first quarter, exceeding the RBNZ’s forecast of 5.3%. The overall inflation rate was 4.0%, marginally above the Bank’s prediction of 3.8%.

Although a softening labor market suggests a potential decrease in headline inflation to around 3.6% year-on-year for the second quarter, the RBNZ is expected to closely monitor non-tradeable inflation, where risks might still be tilted upwards.

Economic indicators show a contrasting picture, with growth and employment weakening. The unemployment rate rose to 4.3% in the first quarter, wage growth decelerated, and the country faced a recession with GDP shrinking by 0.1% quarter-on-quarter.

Despite these signs of a cooling economy, the RBNZ’s sole focus on inflation since its mandate change in December means these factors may not directly influence its immediate policy decisions.

The RBNZ is likely to maintain a hawkish stance in May, keeping its rate projection profile largely intact. This would indicate no rate reductions and a small possibility of another rate increase in 2024, followed by approximately 75 basis points of easing in 2025.

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The Bank is expected to reiterate the need for interest rates to stay at a restrictive level for an extended period to bring annual consumer price inflation back within the 1 to 3 percent target range.

While the RBNZ is optimistic about inflation returning to the target range by year-end, the likelihood of rate cuts before the fourth quarter is considered low, given the delay in data and the persistent risks of non-tradeable inflation.

Nevertheless, if the Federal Reserve eases by 75 basis points as predicted, the RBNZ might consider one or two rate cuts in the fourth quarter of 2024.

The New Zealand dollar (NZD), having surged by 3.7% since the beginning of May, has been the top-performing currency, buoyed by lower US yields, improved risk sentiment, and a domestic monetary policy that continues to offer attractive carry.

While the RBNZ’s May decision may not significantly impact the market, a reaffirmation of its hawkish position could lead to a recalibration of domestic rate expectations and further strengthen the NZD’s position.

However, the NZD’s trajectory will likely remain closely tied to Federal Reserve policy and upcoming New Zealand economic data, with critical reports due on 16 July (CPI) and 6 August (jobs report), and another RBNZ meeting scheduled for 10 July.

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