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RBNZ expected to keep rates on hold

Monday 08 May 2017 11:32 AM

RBNZ expected to keep rates on hold but may signal rate hike by late 2018

By Rebecca Howard

May 8 (BusinessDesk) - The Reserve Bank is widely expected to keep interest rates on hold on Thursday but growing signs of inflationary pressure and a weaker New Zealand dollar mean it may signal rate hikes by late 2018 rather than 2019.

The central bank has kept the official cash rate on hold at 1.75 percent since last November and has consistently said monetary policy will remain "accommodative for a considerable period". Its latest forecast - in the February monetary policy statement - signals rate hikes by September 2019. While economists unanimously expect rates to remain on hold Thursday, most are expecting the bank's forecast to now indicate an increase by late 2018.

"The RBNZ's prior projection for no move in the official cash rate until late 2019 is now implausible. We expect the bank to pull forward the start of normalisation to late 2018," said UBS economist Robin Clements.

Economists point to the fact that first-quarter inflation figures were stronger than the central bank had anticipated after headline annual inflation rose to 2.2 percent, well above the RBNZ's forecast of 1.5 percent. It also meant that headline inflation hit the mid-point of its 1 percent-to-3 percent target range for the first time since 2011.

The bank didn't expect inflation to be 2 percent until mid-2019, according to its latest forecast. They also note that inflation expectations - a key indicator for the bank - have pushed higher. The high kiwi dollar - long a thorn in the central bank's side - is now trading at 75.14 on a trade-weighed index basis, 5 percent below the 79 forecast by the bank for the March quarter.

"We expect the Reserve Bank to hold the OCR at 1.75 percent, but with a stronger signal that the next move in rates will be up," said Westpac Banking Corp acting NZ chief economist Michael Gordon. "We expect the RBNZ’s interest rate projections to be more consistent with an OCR hike by late 2018," he added.

Money markets are even more hawkish with the overnight interest rate market now pricing in an 84 percent chance of a hike by February next year and a 36 percent chance by November this year.

Capital Economics economist Kate Hickie agrees that the central bank might rejig the forecasts but warns markets have gone too far, in particular given the subdued wage growth.

Data last week showed the unemployment rate fell to 4.9 percent in the three months ended March 31 from 5.2 percent in the December quarter but total annual wage inflation, which includes both the public sector and the private sector, was 1.6 percent higher on the year in the March quarter, unchanged from the prior quarter. It also marked the first time since the September 2011 quarter that wage inflation was below consumer inflation.

"Rates will probably remain on hold for a while yet as the RBNZ will want to see a sustained rise in wages and core inflation before it begins to raise rates again," said Hickie.

Annette Beacher, head of economic analysis in Asia for TD Securities, agreed that the activity and inflation data support a more aggressive cash rate profile but said she doesn't think the central bank is "ready to commit to an explicit tightening bias" and noted an unchanged official cash rate profile would send the message it's not ready to shift off neutral.

"Perhaps if the US were more aggressive and the EU were already tapering then NZ could quietly join in, but at this exact moment I don’t see the RBNZ wanting to stand out," she said.

ASB Bank economist Daniel Snowden also noted the central bank may look to strike a neutral tone as it "needs to walk the tightrope of being encouraged by recent developments in inflation, but not so enthusiastic the market brings forward even further its expectations of an official cash rate hike."

While he does expect the central bank to forecast a slightly earlier start to rate hikes, given the risks to the outlook - including the potential for US President Donald Trump’s policies to adversely impact New Zealand's growth and inflation - "we continue to expect the track to show any change in the official cash rate is still a long way off."



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