Thursday, October 30, 2014

The RBNZ and the Fed

The Reserve Bank of New Zealand and the US Federal Reserve both announced their latest monetary policy decisions this morning with the RBNZ’s statement best described as surprising on the dovish side, with the Fed a tad more hawkish than expected.

It was no surprise the RBNZ left the OCR unchanged at 3.5% today.  What was a surprise was the removal of any reference to further rate hikes.  Even during the “period of assessment” since July the RBNZ has continued to indicate that further rate hikes would be necessary – until today.

The critical paragraph from today’s statement is as follows:

“CPI inflation is currently at a low level despite above-trend growth.  However, inflation is expected to increase as the expansion continues.  A period of assessment remains appropriate before considering further policy adjustment.”

It’s clear the RBNZ believes they have done enough for now, and that “for now” is likely to be a long time.  As a notorious hawk it pains me to concede that the probability of further rate hikes has diminished recently but I expect that, like us, the RBNZ will most likely still think the next move in interest rates will be up rather than down.

But recent low inflation outcomes means they have considerable time on their side.  You will recall that following last week’s lower-than-expected September quarter CPI data we shifted or next rate hike expectation from March next year to September (see post below).  We will know more about the RBNZ’s interest rate expectations when we get the December Monetary Policy Statement.

There were no other surprises in the press release.  The RBNZ acknowledged recent softening in the data out of some of the major economies apart from the US.  With respect to New Zealand, the RBNZ acknowledges the economy has been growing above trend, but is expected to moderate towards a more sustainable rate over coming years.

On the exchange rate the RBNZ repeated its line that the level of the NZD remains “unjustified and unsustainable” and that they expect a “further significant depreciation”.  Agreed.

A key catalyst for a lower NZD remains our expectation of a stronger USD over time.  We saw that in action today with a somewhat more hawkish than expected statement from the US Federal Open Market Committee (FOMC).

As anticipated the FOMC announced the end of quantitative easing effective from the start of November. However, the statement was generally more upbeat than expected on the economy, especially with respect to the labour market where the committee now sees “gradually diminishing” rather than “significant” underutilization.

With respect to inflation the Committee acknowledged that near term inflation would be held down by lower energy prices but that the risk of persistent lower than target inflation has “diminished somewhat since early this year”.

The “considerable time” forward guidance was unchanged but the Committee reiterated that the policy outlook remains data dependent.  I’m still comfortable a view that the FOMC starts to raise interest rates from mid next year, although the risks to that right now are biased to later rather than earlier.