Strap yourselves in folks. It's showtime again as we prepare for the latest, plot-twist-packed, instalment of: The OCR Review - It's a Live One.
Yes, once more we are contemplating an Official Cash Rate review that is very much in the 'live' category.
This time around we've pretty much managed to skip any debate about whether there will be a cut or not. A cut is just being presumed. All the chat has been about the size. Will it be a 25 basis-point cut - or a 50?' In other words, will the Reserve Bank (RBNZ) be using a pistol? Or will it bring out the bazooka? Make sure you are in front of a computer or have your personal mobile device handy at 2pm on Wednesday, October 9 for the big reveal. Action guaranteed.
So, what can we expect? Well, some background will help.
The cut in August dropped the OCR to 5.25% from 5.50% where it had been since May 2023. And it ended a 'hiking cycle' that pushed the OCR all the way up from just 0.25% as of October 2021.
Tearing up rates to tear down inflation
It was a punitive, most rapid ever, hiking cycle, with 525 bps of hike spread across the 12 OCR reviews up to and including May 2023 (it works out at 43.75 bps of hikes per review!). And it was all about tearing down rampant inflation that peaked at 7.3% in mid-2022.
The RBNZ's goal is to achieve 1% to 3% inflation as measured by the Consumers Price Index (CPI). And it specifically targets 2%.
Inflation has been marauding outside of the 1% to 3% range since the March quarter 2021. But the the RBNZ's aim to get it back under 3% is now well within sight.
In fact as I write this, we are probably already well and truly there. We just don't know yet. Strangely enough, the inflation results for the just-finished September quarter are being released on Wednesday, October 16 - exactly a week after the very-much-inflation-oriented OCR decision is to be made. No, I don't understand the timing either.
But, be that as it may. In its August Monetary Policy Statement the RBNZ forecast that annual inflation as at the end of the September quarter would be 2.3%, down from 3.3% as of the June quarter.
Some of the 'partial economic indicators' that we have seen, including the monthly Selected Price Indexes, which measure about 45% of the things included in the CPI, have suggested annual inflation may well have come down to somewhere around the RBNZ's 2.3% forecast. All things being equal then, this is certainly pointing toward another OCR cut.
But a 25-pointer? Or a 50?
The 50-point pick surged into outright favouritism with economists just in the past week. Specifically this happened after the release on Tuesday, October 1 of the latest NZIER Quarterly Survey of Business Opinion (QSBO). The QSBO result was a weak one and some economists subsequently stressed the possibility that inflation might soon start to even fall below the RBNZ's specific 2% inflation target. Hence the need to relieve the economy of what are still very tight monetary policy settings as soon as possible.
The markets are sure - but what does the RBNZ think?
The financial markets are, as ever, way ahead of everybody. Markets are pricing in a 90% chance that the OCR cut in the coming week will be a 50-pointer.
In fact the markets are currently pricing in at least 125 bps of cuts between now and February. There are three OCR reviews in that time: the one this week, the final one for 2024 on November 27 and the first one for 2025 on February 19. So, that means the markets are currently pricing TWO 50 bps cuts before the end of this year and one 25 bps in February. Current market pricing is even giving a better than half chance that the February cut will be a 50-pointer as well.
In its August Monetary Policy Statement, the RBNZ was forecasting just three 25 bps cuts in the same timeframe. But the RBNZ has been pointing out recently that we shouldn't take its OCR forecasts too literally. And those forecasts were made in mid-August, which feels already like an awful long time ago. It seems the key thing for this upcoming decision is how much weight the RBNZ will put on the NZIER survey results. And we'll find that out on the day.
If the RBNZ's convinced by the survey's depiction of inflation as very much on the run then it may well be happy to go the 50 point cut route.
If it would prefer to see the whites of inflation's eyes it could take the more cautious path of a 25-point cut and then bring out the big guns in the final review for the year in November - assuming the CPI figure released on October 16 is supportive of such action.
I think it would be fair to say though that the RBNZ under Governor Adrian Orr has tended to take a shoot-on-sight approach, so, if the thinking is that the OCR needs to be dropped in a big hurry, then dropped in a big hurry it will be.
Could inflation yet throw a curve ball?
The escalating Middle East crisis certainly has the potential to throw oil prices and other commodity prices around. But to some extent the RBNZ would attempt to 'look through' such shocks and it may well be that such shocks as we may see don't endure for that long anyway.
In terms of recent data, the RBNZ's actually been getting great tailwinds in its inflation fight from things like, well FALLING oil prices (because they have been falling till very recently).
Oil prices and other things involving imports are categorised as being part of so-called 'tradable' inflation.
The RBNZ can't do much about tradable inflation - other than enjoying when it goes down as has very much been the case in recent months. But what the RBNZ does focus on - and can do something about - is the 'non-tradable' or domestically-generated inflation.
As per the June quarter, annual non-tradable inflation was still running at an elevated 5.4%. The RBNZ reckoned as per its August forecast that this would be down to 5.1% by the end of the September quarter. That's still a long way above the 1% to 3% inflation target range.
However, the mounting belief is that with the NZ economy now as cold as a cold thing, this domestic inflation will start to melt away quickly. But I'm sure the RBNZ would still rather prefer to see with its own eyes that this is actually happening - rather than depending on, effectively, second-hand information such as surveys.
Nevertheless, the overwhelming view is that the RBNZ will cut the OCR by 50 points in the coming week. Just don't bet your house on it though. Our central bank has a collective mind of its own. It has demonstrated that many times in the recent past.
Some hard evidence would be good
Personally, I don't think we've yet seen quite enough definitive evidence that domestic inflation is collapsing in quite the way many economists expect. Now, yes, it could well be that the September quarter CPI figures WILL provide that evidence. But we ain't seen them figures yet.
For me, a 25-point cut would be a safer option. This is New Zealand. There's already people waiting at the starting gate for the next housing boom to begin, despite what some noisy gloom and doom merchants might say. So, caution by the RBNZ would be warranted.
Having said that, I'm expecting a 50 point cut. And, yes, I was wrong with my pick before the last OCR review, so, feel free to ignore me!
Anyway, that's it. I'll leave you with some thoughts from ANZ chief economist Sharon Zollner and senior strategist David Croy taken from their preview of the OCR decision. They think the decision is going to be a close-run thing:
"...But now that most economists are calling it and the market is pretty much fully pricing it, one has to conclude that on balance the likeliest scenario is that the RBNZ will just take what’s on the table and cut the OCR 50bp to 4.75% next week. But we discussed flipping a coin...
"...Weighing it up, and taking risks on both sides into account… it’s clear as mud. We are much less convinced than the market that a 50bp cut is a done deal, but we are now over the line.
"We’ve laid out the arguments and the data here, but it all boils down to one thing: will the RBNZ now be more certain than they were in August that the job is done; that inflation will not only fall back into the band (a given, and imminent) but stay there? The economy is not as weak as they thought, with the risks tilted towards a faster rebound than they expected in August. On the other hand, they can have more confidence about the current degree of spare capacity in the economy and near-term disinflation, and that counts for a lot.
"The traditional way of predicting RBNZ’s policy decisions – seeing what they said last time and looking at whether the data justifies a deviation from that plan – clearly argues for a 25bp cut. But stepping right back and looking at the big picture, if you ask the question, 'is it reasonable for the RBNZ to be confident that they’ve done enough?' then it would be very easy to justify a 50bp cut. The market has made its mind up firmly in favour of 50bp; we view it as a much closer-run thing than that. We’ll find out next Wednesday what the [RBNZ Monetary Policy] Committee thinks."
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