Thursday, January 31, 2013

RBNZ on hold, but for how long?

No-one will be surprised the Reserve Bank of New Zealand left the Official Cash Rate (OCR) unchanged today.  However, the tone of the press release was probably a tad more hawkish than the market was expecting, especially given the much weaker than expected December quarter CPI.  The Bank has made it abundantly clear (again) that the next move in interest rates is up.

It’s clear the Bank is firmly focussed on where growth and inflation are likely to head rather than where they have been.  That’s entirely appropriate.  The Bank sees global growth recovering in 2013 and they believe that domestic GDP growth is recovering from the “softness” seen in the middle of 2012.  They also acknowledge the weak labour market and fiscal consolidation are negatives for growth, so there are still headwinds.

The Bank notes that recent inflation has been subdued and that this is mostly due to the “overvalued” New Zealand dollar.  That’s been evident in the split between tradeable and non-tradeable inflation.  We also know the Bank believes there is not much they can do about the overvalued exchange rate.  We agree with that.  It’s wrong to assume that lower interest rates would lead to a lower New Zealand dollar – other factors are at play.

With respect to the housing market the Bank note the recent house price inflation and that they “are watching this and household credit growth closely”, as they should.  They also note that given the improving global financial market sentiment, bank funding costs have reduced leading to some reduction in interest rates faced by households (and firms) in New Zealand.  That’s clearly adding further impetus to the housing market.

The Bank does not want to see financial stability or inflation risks accentuated by demand in the housing market getting too far ahead of supply.  That reflects the Bank’s role in ensuring financial stability and its new requirement to monitor asset prices.

As I said the other day, we see the current housing market problem as being predominantly one of a shortage of supply rather than undesirable speculative demand, but if not dealt with, the former can quickly become the latter.  Dealing with supply needs a multi-faceted response.  I’ll have more to say on the NZ housing market next week.  I’m also looking forward to the Governors speech tomorrow for any clues on where the Bank is at with respect to the use of macro-prudential tools.

The Bank concludes that “Overall, we expect economic growth to strengthen over the coming year, reducing spare capacity and bringing inflation slowly back towards the 2 percent target midpoint.”   And of the course the Bank won’t wait for inflation to get to 2% before they start to remove the monetary stimulus.   I’m left feeling comfortable with my view that we will start to see higher interest rates from later this year.