ANZ economists say the odds on the Reserve Bank holding the Official Cash Rate (OCR) at 3.5% through 2015 are growing by the day.
In their weekly Market Focus report ANZ's economists note interest rate markets have entered a period of "risk off" following the release of dovish US Federal Reserve minutes, cautious speeches from global policy makers, and sharemarket gyrations. They say dovish overtones from the Fed highlight New Zealand's yield advantage, help keep the New Zealand dollar elevated, and maintain downward pressure on OCR expectations.
"With a hike priced in by July there is scope for front-end rates to continue drifting lower if the market gravitates to the view the Reserve Bank could be on hold for most of 2015, which is an assessment we are increasingly accepting as the central scenario," ANZ's economists, led by chief economist Cameron Bagrie, say.
"The odds of the Reserve Bank sitting out 2015 are growing by the day; this week's GlobalDairyTrade auction will be key."
The next Fonterra GlobalDairyTrade auction is early this Thursday morning (NZ time). Both Whole Milk Powder prices and the headline Trade Weighted Index measure have roughly halved since February highs.
After four OCR hikes this year added a combined 100 basis points lifting the OCR to 3.5%, the Reserve Bank left the OCR on hold at its last review on September 11. The OCR is next reviewed on October 30, and then again on December 11. Most economists expect the Reserve Bank to leave the OCR on hold into 2015, with several predicting the next increase will take place sometime between March and June next year.
ANZ had been picking the next increase to take place at the Reserve Bank's OCR review on March 12. However, the bank's economists now have their OCR forecasts under review.
They point out a fall below 4% is on the cards for the bellwether two-year swap rate, which was at 4.02% on Monday.
"Technically this will require a significant re-rating of OCR expectations, but this is now underway with forward interest rates moving aggressively lower in the past week. OCR expectations have been slower to adjust, with 22 basis points of hikes still priced in by July," ANZ says.
"But with the onus now on dairy prices to rise and the Trade Weighted Index to fall, and with a wave of caution sweeping through the rural community, markets are beginning to seriously ask whether the Reserve Bank might be on the side-lines for much, if not all, of 2015. At this stage it is a bridge too far to make that call, but it does feel like the more vulnerable side from a price action perspective."
"We expect short-end interest rates to continue moving gradually lower, and to continue 'teasing out' the possibility of an extended policy siesta," ANZ's economists say.