Pressure on RBNZ to cut

Bonds

Roger J Kerr says the 'shocker' US jobs figure and subsequent rise in value of the NZ currency should make it an 'easy decision' for the Reserve Bank to reduce the Official Cash Rate this week

7th Jun 16, 12:59pm by Roger J Kerr

By Roger J Kerr

Eight out of 15 economists predict that the RBNZ will cut the OCR interest rate by 0.25% to 2.00% this Thursday, however none of the big four local banks are included in that eight.

The local interest rate markets is still only pricing a 25% probability of a 0.25% cut this week.

The events of last Friday in the US with a “shocker” jobs figure that caused the US dollar value to plummet should make it an easy decision for RBNZ Governor Graeme Wheeler on Thursday to cut the rate.

The current NZD/USD exchange rate are above 0.6900 and the TWI Index near to 74 means that the RBNZ’s revised inflation forecasts will be a lot lower than previously expected.

The RBNZ have been working off an assumed 70 to 68 TWI level. Unless the exchange rate goes down to get inflation higher the RBNZ will be in breach of the 1% to 3% target band for another 12 months. Some flexibility for deviation outside the band is allowed for in the Policy Target Agreement (PTA), however allowing inflation to be constantly below 1% for 24 months is clearly a failure to manage monetary policy appropriately.

The latest bout of US dollar weakness makes it doubly difficult for the RBNZ with a housing bubble to content with as well.

However, unless Mr Wheeler acts decisively with a 0.25% cut, the NZ dollar will appreciate further in the FX markets and inflation will have no chance of getting back within the prescribed band.

It would now be a major surprise if the RBNZ do not cut rates this Thursday.

If the decision is to leave the OCR unchanged, the RBNZ are not following-through on their previous warnings on the currency value and are effectively ignoring the requirements of the PTA.

Mr Wheeler needs to trust that regulatory controls on bank mortgage lending and government/local government initiatives will address the household debt and housing supply issues.

A 0.25% change to interest rates is not going to make much difference to the housing market. The inflation target and the plight of the dairy industry are more important for the RBNZ and the economy than the housing market at this point in time.

The RBNZ slashed interest rates a year ago when international dairy prices plummeted, the financial position of the dairy sector is far more acute today than 12 months ago with now three seasons of incomes below average cost levels.

The RBNZ will be very aware of the financial pressures and stresses in our largest industry and therefore must act accordingly with monetary policy settings.

If the NZD/USD exchange rate was sitting in the 0.6500/0.6600 region today going into Thursday’s Monetary Policy Statement, it was arguably a 50/50 call on whether a 0.25% was justified or not. The fact that the Kiwi dollar has jumped up to 0.6900 on unexpected USD weakness, should now make it a straight forward decision for the RBNZ to cut rates.

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Roger J Kerr is a partner at PwC. He specialises in fixed interest securities and is a commentator on economics and markets. More commentary and useful information on fixed interest investing can be found at rogeradvice.com

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13 Comments

by Smalltown | 7th Jun 16, 1:38pm 1465263529

Wheeler is on record saying he wants a lower dollar - he knows what he has to do.

by head_down_bum_up | 7th Jun 16, 1:43pm 1465263794

It's the only way NZD is coming down. Carry trade still gets plenty of money being parked in NZD.

by tomalteruk | 7th Jun 16, 3:03pm 1465268627

Each experts anylise the situation based on what they feel should happen instead of reading the market.

by BadRobot | 7th Jun 16, 5:41pm 1465278091

Gut rather than head?

by kpnuts | 7th Jun 16, 3:13pm 1465269230

I agree - even a point would make little difference tot he housing market - there are much bigger drivers that have pushed it up - and when fear sets in - much bigger drivers pushing it down - he should cut by .5% now = send an unequivocal message to the markets that the dollar is not a one way bet - reduce the carry trade and boost all our exporters - not just dairy

by CJ099 | 7th Jun 16, 3:54pm 1465271692

Yes I think a continued cut to the OCR rates would very much help New Zealand in the long run. It would certainly help lower the NZD, that in turn would help our exports, further boost tourism and help to attract more international business development.

Unfortunately I have witnessed International Companies pulling out of Auckland due to the NZD being too strong and the high cost of living.

by David Chaston | 7th Jun 16, 4:12pm 1465272766

Not sure that is the case. On December 9 last year, the OCR was 2.75% and the NZD bought 66.4 USc with the TWI at 72.2.

On January 27, 2016 the OCR was 2.50% and the NZD bought 65 USc with the TWI at 70.6.

A few days after each of these dates the OCR was cut -25 bps.

Today the OCR is 2.25%, the NZD buys 69 USc and the TWI is at 72.2.

Where is the evidence that the 50 bps cut in the OCR had any impact on the NZD?

Tourism needs no 'boost' - it is booming anyway. Ditto horticulture, ditto most things except dairy.

by BadRobot | 7th Jun 16, 5:42pm 1465278171

I think other factors totally outside Wheelers control will have a greater impact on the exchange rate than lowering the OCR. As I understand New Zealand accounts for 0.6 percent of world trade and I'm sure our FX trade is of a similar proportion. In the recent past I've seen the NZD / GBP exchange rate move around based mainly as far as I can tell on Brexit opinion polls (and yes I understand the significance). Similarly the sentiment on whether the Fed will increase interest rates is based on each bit of new data and similarly affects the NZD / USD exchange rate. While some may argue it is the market being efficient in incorporating that latest information - I think it's noise - I'm more inclined to think it's nothing more that FUD driving the market.

by CJ099 | 7th Jun 16, 6:14pm 1465280043

@ David: It depends which currency you're watching. I mainly watch the relationship between the NZD and GBP and when the OCR drops the Pound gets stronger admittedly sometimes it can be a gradual reaction. But of course there are lots of other influencing factors on currency such as oil prices, possible Fed rate rises, Asia market changes and the list goes on.

But keeping the NZD high isn't really helping our Technology sector for investment and yes Tourism, which may be good at the moment but it could be even better, along with the rest.
There's always room for improvement and we need to further develop other markets to wean us off our house price dependency and help us stave off a recession if the property market eventually crashes.

by Justice | 7th Jun 16, 6:34pm 1465281245

IF all those things are "booming" then where is that reflected in the CPI? Regardless of dairy surely our CPI would be higher? Sounds like you support (much like myself) for the OCR to actually be increased, thus put a nail into the housing speculation and borrowing binge which would appear to be NZ's ONLY "booming" industry?

by Stephen L | 7th Jun 16, 4:23pm 1465273416

I know it's not going to happen, but it does seem to me alternative monetary tools including a statement that the RBNZ will directly fund say $2 billion of extra government infrastructure spend over the next year, would be a more positive and useful approach than cutting interest rates 0.25%. Previous cuts do not seem to have reduced the exchange rate nor increased inflation, although we don't know what would have happened if they hadn't done so.
Alternative tools would be both useful, and more likely to work.

by Cowpat | 7th Jun 16, 9:06pm 1465290416

Its a currency war, every central bank has an inane belief that those with a lower currency will come out as the winner. The NZD will continue to be tossed around. Personally , see parity with the AUD this year and NZD heading back over 80 USD over next 24 months , unless there is a major hiccup at which point the major central banks will possibly coordinate policies to achieve another temporary fix.

by Pathos | 8th Jun 16, 7:25pm 1465370745

Mr Kerr is evidently excited by any event that gives him a platform to tout lower interest rates without any real consideration to the social damage that cheap credit creates. Cheap credit has not saved any of the world's economies since central banks started knocking down rates several years ago. Cheap credit has done nothing but fuel debt. Hardly a solution.