RBNZ's McDermott changes expectations, moves markets; international data disappoints; 'Grexit' morphs into 'Grimbo'

By Kymberly Martin

Game changing commentary from McDermott yesterday, the response has been a NZ$ under pressure and losing ground on cross rates in the subsequent sessions.

As we delved into the speech, the more it offered up soft touches, at the edges.

These suggested that if there is a bias for the OCR between now and the end of the year, it is more likely down than up.

While McDermott talked about all that would probably lift annual CPI inflation over the next year or two, he also wondered out loud about what might frustrate its return to the mid-point of the 1.0 to 3.0% target band that the Bank so clearly desires.

For example, McDermott noted that “surprisingly weak inflation overseas and our high exchange rate are the principal reasons why we have had downside surprises to headline inflation.”

McDermott also spent some time talking about inflation expectations. He conjectured that these – however defined – tended to follow actual CPI outcomes as much as lead them (similarly for wage negotiations).

While this might suggest a need to downplay inflation expectations, as they are short-sighted, it also sets the potential for inflation expectations to be dragged down, given the low-balling annual CPI expected for much of this year.

To the extent this gets embedded in the economic system the Bank would feel very much on the back foot. Related to this was the paragraph that probably sated the doves most of all today, namely;

We remain vigilant in watching wage bargaining and price-setting outcomes. Should these settle at levels lower than our target range for inflation, it would be appropriate to ease policy.

So it will be important to watch the wage and salary data, and the various business pricing and inflation expectations variables. The May 6th suite of labour market reports for Q1 will shed light on the former while next Wednesday the ANZ business survey will offer insight into the latter.

Almost universally data disappointed last night.

Following on from a weak flash update of Chinese PMI during our afternoon the equivalent releases from across Europe and the US were weaker. In the US monthly New Home Sales numbers and the Kansas Fed. Activity survey also printed softer outcomes than forecast.

Headlines from Europe ahead of the EU meeting in Riga have centred on talk of “Grimbo”, a period of limbo for Greece, updating the rather well-worn Grexit and Graccident monikers.

This limbo now seen as possible with media reports circulating of a potential deal involving a Greek request for the ESM facility to be used to provide proceeds to pay for debt redemptions over the northern summer. Yes, European officials showing off their PhD credentials in the proverbial can-kicking.

A mix of European hope and the softer US numbers has the US$ on the back foot in the New York session. The EUR has recovered from the mid 1.06 level as Europe opened to trade just shy of 1.0850 this morning.

To close out the week aside from the obvious focus on developments from the EU Finance ministers meeting there is the influential IFO Survey from Germany to also watch for.

As to our Friday, well we open to the NZ$ recovering to trade just shy of 0.7600, though as mentioned ground has been ceded on most cross rates.

Traders will favour the extension of these moves over the coming week; moves that will please the local primary sector looking for an opportunity to address their hedge books (and glad that the Andalusian road trip and Tuscan villa just got a little more expensive). I believe that is where this week started and now ends.

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