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Reserve Bank to keep OCR at 2.5% next Thursday, bank economists say; Global developments the catalyst for any cut; Markets eye 25% possibility of a cut

Posted in News
Reserve Bank Governor Alan Bollard is expected to keep the OCR on hold on Thursday, June 14

By Alex Tarrant

Reserve Bank Governor Alan Bollard is set to leave the Official Cash Rate on hold at 2.5% next Thursday, according to New Zealand's bank economists, while financial markets are pricing in a 25% chance of a 25 basis point cut.

The two groups have been at odds with one another for months as to the next move in the OCR. Bank economists are all expecting the next move will be up, in March 2013, while markets have priced in cuts within a year of around 40 basis points.

Bollard's comment about possibly reassessing where rates were headed when he last reviewed the OCR on April 26 kicked up talk of the Reserve Bank positioning itself to cut the OCR in the face of a stubbornly high New Zealand dollar while export commodity prices were falling, and a deteriorating global economic outlook.

At the time, Bollard said that, should the exchange rate remain strong, without “anything else” changing, the Bank would need to “reassess the outlook for monetary policy settings.”

The 'monetary policy setting' the Bank referred to was its 90-day bank bill interest rate track. The 90-day rate effectively tracks the Official Cash Rate, and generally sits 25-30 basis points above where the OCR is expected to be during the forecast period.

The Bank's latest set of forecasts in its March 2012 Monetary Policy Statement showed minor rate rises priced in, with the OCR set to rise to 3.25% by the March 2015 quarter.

Since those comments in April, the New Zealand dollar has fallen as much as 5.7% on a trade-weighted basis and the TWI currently sits 3.4% below its April 26 level, at 70.0. In early May, Bollard said the falling currency since his April comments was in line with fundamentals.

In mid-May, markets were pricing in an 85% chance of a 25 basis point cut on June 14, which has since retreated to about a 25% chance.

So all eyes will again be on the Reserve Bank's forecast 90-day bank bill track in Thursday's quarterly Monetary Policy Statement accompanying the OCR review to see where the central bank expects monetary policy settings to go over the next three years.

What the economists are saying

Westpac chief economist Dominick Stephens said on June 6 that Bollard would not cut the OCR on Thursday for two reasons. One was monetary conditions had already eased over the last six weeks, while the second was the uncertain economic environment meant maintaining flexibility to cut was paramount.

"Sharp declines in swap rates and the exchange rate over recent weeks have done much of the work for the Reserve Bank, and will cushion the economy. Falling (wholesale) swap (interest) rates have translated into lower fixed mortgage rates," Stephens said.

Any market reaction to an on-hold decision on June 14, which could see interest rates and the exchange rate rise slightly due to some expectations for a cut, would pale in comparison to the gyrations that could occur after Greece’s elections on June 17.

"The wild uncertainly of the international situation – and the fact that at least one defining event will occur shortly after next week’s Monetary Policy Statement – incentivises the Reserve Bank to adopt a wait-and-see approach. The Greek election might set off a chain of events that leads to a GFC-style banking crisis in Europe," Stephens said.

"Failure to recapitalise Spain’s third-largest bank might do the same. But the most likely scenario is that Europe engineers another muddle-through rescue plan which calms markets for a while at least," he said.

The Bank might also decide to emphasise that it was willing and able to cut the OCR in response to a deepening crisis.

"The final paragraph might include a phrase along the following lines: Should global financial and economic conditions deteriorate further, the Bank has latitude to reduce the OCR. For now, it is appropriate to keep the OCR at 2.5 percent."

Stephens said Westpac expected the Reserve Bank's 90-day track forecasts to predict no rate changes for the next year or so. For 2014, the Reserve Bank may forecast gently rising interest rates, if only to remind markets that the OCR is currently below its long-run sustainable level, they said.

Risk of borrowers moving to fixed rates

BNZ economists also noted the falling dollar and interest rates were easing monetary conditions. They said it would be unwise for the Reserve Bank to cut on June 14.

"Some would argue that an insurance easing to protect against the ravages of Europe might be warranted but we would argue that the current behaviour of the NZD suggests that the currency itself is the insurance. Every time European risk rises the NZD falls. We have no reason to believe that it will be any different going forward," BNZ's head of research Stephen Toplis wrote on June 7.

This has the dual impact of helping the New Zealand economy rebalance by supporting exporters to the detriment of domestic demand, which was exactly what is required. Cutting interest rates would have the opposite effect in discouraging household saving and encouraging consumption.

"The Reserve Bank also has to be cognisant of the shape of the yield curve for borrowers. With global bond yields pushing down through record lows and banks competing relatively aggressively in the fixed mortgage space, we are threatening to create an environment where there is a significant shift from floating to fixed mortgages," Toplis said.

"If that occurs then the leverage the Reserve Bank has from the cash rate will be reduced. This could prove problematic in the event that the housing market does pick up in the manner we expect," he said.

"Putting all this together, we believe the New Zealand economy is set for a period of modest growth. Modest is the key word here. The growth path is certainly singularly unspectacular. We are forecasting the economy to expand just 1.9% this year, rising to 2.8% next and then 1.3% the year after.

"This is not a strong argument for interest rate increases and we concede that the first rate hike may be delayed relative to our March 2013 forecast. We also concede that the current peak we have in the cash rate of 4.25% may be too lofty. However, we remain very concerned that New Zealand's current potential growth rate is probably very low," Toplis said.

Any cuts to be emergency cuts

On June 5, ANZ economists said if the Australian Reserve Bank decided that day to cut its rate by 50 basis points (it ended up cutting by 25 bps) then that might put more of a focus on New Zealand interest rate markets.

The catalyst for a cut in New Zealand was now the global scene rather than the level of the New Zealand dollar, they said. 

"Strictly speaking, we don’t think the RBNZ is in the rate cutting space – the currency and lower mortgage interest rates are doing the work for them.  Moreover, there is a rebuild effort eventually around the corner, which ironically might hit the economy at an extremely fortuitous time," ANZ economists said.

"At this juncture, however, there seems very little upside drawing too much attention to it when the global scene is dominating today and OCR hikes look to be a very long way away," they said.

The hurdle to OCR cuts was high.

"New Zealand has yet to really feel the macro economic impact of events in Europe. However, there has been a market impact with fixed mortgage rates having eased and the NZD markedly lower. The offshore cost of funding may be rising, but NZ banks have pre-funded much of their 2012 borrowing needs," ANZ economists said.

"The NZD should weaken further in response to slowing global growth and end-demand for our exports, and in this respect, the outlook for China and Australia remains crucial. In the interim, the RBNZ’s best option is to sit tight, even with a relatively benign inflation profile. We still believe that should any cuts be delivered, they will be emergency in nature," they said.

Rate track might be pushed out, but shape to stay the same

Meanwhile, ASB economists said on June 7 that an extreme deterioration in Europe could spur OCR cuts, but this was not their central scenario.

"Economic developments have been, on balance, weaker than expected. Income growth and retail spending have been weaker than expected, commodity prices have continued to fall and there is increasing evidence global growth is losing momentum," ASB economists said.

"However, much of the weaker economic outlook has been offset by looser monetary conditions via the weaker NZD and declines in fixed interest rates. We expect the RBNZ to push out the timing of OCR increases to the first half of 2013. But, with a lower NZD providing the majority of additional stimulus needed, we expect a fairly similar 90-day projection beyond this," they said.

Offshore risks had once again come to the fore over the last month or two.

"The Greek election resulted in additional uncertainty following the failure to establish a new coalition government. A second election is now set for 17 June. Concern is also growing over the extent of losses amongst Spain’s banks," ASB economists said.

"It is likely that external, possibly Europe-wide assistance will be necessary to shore up the financial system (in Spain and more widely)," they said.

"Should Europe continue to muddle through in this fashion, we would not anticipate a cut to the OCR. However, should a more significant disruption eventuate (such as a Greek exit from the euro) an OCR cut would be very likely. We currently put the odds of this at one in three."

We welcome your help to improve our coverage of this issue. Any examples or experiences to relate? Any links to other news, data or research to shed more light on this? Any insight or views on what might happen next or what should happen next? Any errors to correct?

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14 Comments

http://www.resilientcommuniti

http://www.resilientcommunities.com/the-big-reset/
 
Deckchairs.
 
How many times have we likened them here?

  The 'Big Reset' Is Coming:

 

The 'Big Reset' Is Coming: Here Is What To Do
 
http://www.zerohedge.com/news/big-reset-coming-here-what-do

Cuts ..              Cuts

Cuts ..
             Cuts ...
                             Cuts ....
Can't get the peasants spending .... 
Levers are'nt working like they used to!
What's that QE all about?
 
 
   

"The Reserve Bank also has to

"The Reserve Bank also has to be cognisant of the shape of the yield curve for borrowers. With global bond yields pushing down through record lows and banks competing relatively aggressively in the fixed mortgage space, we are threatening to create an environment where there is a significant shift from floating to fixed mortgages," Toplis said
Since when did the BNZ give advice to the RBNZ?  Of course the RBNZ are completely unaware of these issues  -   they need Spreadsheet Model Kids from the commercial banks to inform them.
Hey, what about the Banks drop the floating rate (3 months overdue) and then the "threat" will disappear!!

MB Chief Economist: 

MB Chief Economist:  "Interest rates will never, ever be raised again ... so don't worry anymore ...ignore all other bank predictions .... live your life free from rate hike fear"
 

  From the BNZ, above: Every

 
From the BNZ, above:
Every time European risk rises the NZD falls. We have no reason to believe that it will be any different going forward," BNZ's head of research Stephen Toplis wrote on June 7.
This has the dual impact of helping the New Zealand economy rebalance by supporting exporters to the detriment of domestic demand, which was exactly what is required. Cutting interest rates would have the opposite effect in discouraging household saving and encouraging consumption
Toplis in a round about way explains the futility of our RB's single focus on inflation; and single tool to fight it- the OCR. The world has changed. In the almost certain event that the UK, the US, Europe and others print more money, our dollar will in fact not decline; it will go up. Then we will have the worst of both worlds yet again- highish consumption; highish borrowing funding property bubbles; but all funded on foreign money coming in the very open door that is our monetary and banking system. Might seem great at the time, but will leave a huge bill at the end for those who stay to pay it.
Mr Bollard, what is your response in the event of more global printing? We have to either stop some of it coming in; and or print some of our own to balance the exchange rate. The latter being my preference. Otherwise we are no different to Greece and Spain. It is infuriating that he does not at least acknowledge the problem, which I note the IMF has also made crystal clear today.  Probably trying to stay in denial until he leaves in a couple of months.

Agree, SL, we should be

Agree, SL, we should be printing. Perhaps too foreign a concept for us?  Or RBNZ & Govt fail to see the gravity of the global economic situation.  "She'll be right".   Or perhaps other masters IMF, etc won't permit.

Global news!.. "As a US

Global news!..
"As a US citizen, I applaud the French strategy. Since we can't fix America, we need other countries to be even more insane than we are! Can we get France to implement a $500 euro an hour minimum wage to "wipe out poverty"?
http://globaleconomicanalysis.blogspot.co.nz/
Yes the French want to be the first to fall in the effluent ....face first. Good luck to them. Splot.
..................................................................................................................................................
"Spain is asking for an international bailout to rescue its debt-laden banks, its finance minister has announced, amid reports the package could total £81bn"
http://www.telegraph.co.uk/
Think of the brownie points on the international stage Bill....we know you want to contribute Kiwi taxpayer money...send Spain some loot...save those parasites that gambled on property in Spain...you know you want to!!!!

We will be....I think we are

We will be....I think we are committed to the IMF of some billions (2, 3? 5?).....I reckon we should just print NZD (yes I mean physically) and send it over....let their banks do with it as they will.
regards
 

It's June 5th  -  the OCR is

It's June 5th  -  the OCR is now 8.25%    -   What were they thinking in 2008? Something like: How can we completely destroy the NZ economy by whacking interest rates as high as possible?   No small business in NZ could possibly make a net profit after tax =to interest rates being charged.
In June 2010  -   the RBNZ  gets another 'bright' idea   -  " OK Guys, we're 18months into the worst Global financial collapse since 1929   -  let's crank up the OCR again - twice in a row.
Even before the Feb 2011 earthquake we were due to an OCR cut....
Anyone like to predict the next hike in the OCR?    
When Europe stabilises?  When the USA repays it's debt?   When China starts populating all it's zombie apartments?  

That would be never..... The

That would be never.....
The OCR as a tool was an impliment of pre-peak oil.....used to control inflation etc.....the next two decades look like a long depression to me....So its possible that in that time frame we will see small increases/blips in the OCR to combat inflation....but really it will subside, lack of energy will see to it.....so the average OCR in the next 2 decades I think will be <4%....
regards

Why I think we wont try very

Why I think we wont try very hard to stop a depression happening,
http://blogs.ft.com/martin-wolf-exchange/2012/06/07/the-german-response/...
Pieces like this seem to indicate that the "ppl in charge" are hell bent on pursuing voodoo economics with all to brief doses of sanity (fits of keynesian) just long enough to almost stabilize a bad situation.
I'd liken it to walking along a crumbling cliff edge with a [economic] blindfold on....you stumble or feel the edge give way and reach out and grab a [kenesian]  tree branch....gain your feet and throw that branch away as it smells of doggy doo doo [to you] and carry on along the edge.....but worse load your back pack up with yet more rocks....(matching the ones in your head)...........
Sooner or later that edge will crumble too fast or there wont be a lucky branch to catch....or the branch will snap under the strain and lo and behold you'll blame the branch...as you fall to your doom. (Note the blamers of the Obama stimulus plan).
"All one can say is, My God. You have to be willfully blind not to know that private excess, not public, caused the problems in Spain and Ireland — and nowhere, not even in Greece, did Keynesian stimulus efforts have anything at all to do with the crisis."
http://krugman.blogs.nytimes.com/2012/06/09/wolkenkuckucksheim/
Lucky us to be steered by such ppl, eh?
regards

Thursday prediction:  OCR no

Thursday prediction:  OCR no change.  (must keep some positive territory for when more global problems call for another OCR cut [later[)  
Of course, according to the bank economists 12 months ago, the OCR should be hiking up to 4.25 currently, with a booming stimulus from the gigantic Christchurch rebuild.    Hasn't happened.