Declining dairy prices and rising consumer prices may see inflation at the top of the RBNZ target 'before long': BNZ

by Raiko Shareef

NZ Dollar

The NZD is broadly weaker this morning, having made gains only against the AUD overnight.

The NZD/USD is 0.5% lower at 0.8640.

The USD is stronger amid softer risk appetite, but this broad-based weakness in NZD and AUD suggests that investors have fallen out of love with these currencies, at least for now.

We suspect investors have taken profit on the gains AUD and NZD made last week.

Certainly there are fundamental reasons for the NZD to be lower, not least of declining commodity prices.

At the Global Dairy Trade auction overnight, milk prices fell a further 2.6%, adding to the declines seen over the past two months. 

This will take months to flow through into the official terms of trade data, but we doubt markets will wait around that long before reassessing the NZD’s value.

Today, the local focus will be on NZ’s Q1 CPI, where we are expecting a rise to 1.6% y/y, a touch below the RBNZ’s 1.7% call at the March MPS.

That said, we and the RBNZ are more focussed on future inflation. With forward indicators of prices all pointing upward, we expect CPI inflation will breach the top of the RBNZ’s 1% to 3% target band before long.

For now, we see initial support around 0.8610, and resistance at 0.8690.

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Majors

The USD and the JPY are stronger this morning, with the market perturbed by military action in eastern Ukraine.

Earlier this week, the Ukrainian government announced that it began military operations to dislodge heavily-armed (and Russian-backed) separatists in the country’s eastern cities. Overnight, Ukrainian troops forcibly took control of a regional airport. This puts the newly emboldened Kiev-based government on a collision course with Russia. From a latter, a string of comments including ominous warnings of civil war failed to improve the market’s mood.

As a result, the USD is stronger against most major currencies, with the US Dollar Index up 0.1% to 79.8. The JPY is only marginally stronger against the USD at 101.9, but has appreciated against the major crosses.

The USD rally received a small boost from accelerating inflation. Markets had expected annual CPI inflation to rise from 1.1% to 1.4% y/y in March, but the data did marginally better, printing at 1.5%. Core measures of inflation were also slightly stronger than expected. In contrast, the New York Fed’s Empire manufacturing index printed well below even the most pessimistic forecasts, falling from 5.61 to 1.29. Markets were expecting a rise to 8.00.

The AUD was one of the worst performers of the evening, falling 0.7% against the USD to 0.9355. The RBA Board Minutes, released yesterday afternoon, brought nothing new to the table. They continue to signal “a period of stability in interest rates”. There were no unexpected comments about the strength of the exchange rate.

The AUD was probably helped lower by Chinese credit data, which slowed further in March. Total societal financing grew at ‘just’ 16.2% y/y, compared to 17.1% in February. This added to concerns that China’s Q1 GDP growth (due for release today), will disappoint. The market expects a slowdown to 7.3% y/y, from 7.7% in Q4 2013.

That will be the highlight for today’s session. China will also release monthly industrial production, fixed asset investment, and retail sales data. Once that hurdle is cleared, the market will settle in and wait for Fed Chair Yellen’s speech to the New York Economics Club in the early hours of tomorrow morning. In the past, this fixture has seen market-moving comments from sitting Fed Chairs. We suspect Ms Yellen will remain consistent with her recent dovish overtures.

All its research is available here.