As was widely expected the Reserve Bank of New Zealand (RBNZ) left the Official Cash Rate (OCR) unchanged today at 3.0%. The surprise was the dovish tone of the accompanying statement with the Bank shaving about 30bps off its forecast interest rate track and pushing out the timing of the first hike out to June compared with March previously, with which we concurred.
To some extent we shouldn’t be surprised given the lower starting point to growth. The RBNZ was expecting 0.9% GDP growth in Q2 which came in at 0.2% and have revised down their Q3 forecast from 0.8% to 0.3%. But while the starting point is lower, we know that growth will be stronger later next year and into 2012 on the back of the Canterbury rebuild. The cumulative change across the growth forecast path is only of the order of 0.5%.
In terms of monetary policy, it appears they are relying on their ability to “look through” one off events and are setting policy in terms of what we might call an “underlying” growth rate.
As you will recall we have been quite comfortable with the concept of a lower interest rate track this cycle. This is on the back of the structure of the economic recovery (less consumption and residential housing) and its continued overall subdued nature. But part of our low interest rate story has been the expectation that the RBNZ will front-foot the inevitable inflation fight, stay in front of the problem and not get into the same situation as the last cycle when the OCR ended up at over 8%.
I’m quite happy to shift the starting point of the next phase of the tightening cycle out to June. But I also believe that once the time comes to start removing the stimulus, the hike in rates will be more aggressive than the Bank is currently forecasting. The new risk to add into the New Zealand economic landscape is that they take a too sanguine view of inflation, leave the tightening too late and we end up with a higher OCR than would be the case if the Bank took earlier action.
We agree with the message to the Government to get spending under control. When the time comes to remove the stimulus, it is desirable that fiscal policy does its share of the work. This will reduce the work needed to be done by interest rates and in turn take pressure off the exchange rate thereby support the necessary rebalancing in growth.