No celebrations just yet

“Come back in November”, Jarrod Kerr, Kiwibank chief economist says.

He and peers at Westpac, BNZ and ANZ expect the Reserve Bank (RBNZ) to keep the OCR at 5.5% in its review on Wednesday.

They also expect the RBNZ to keep the Monetary Policy Statement similar to April, although Kerr foresees a few dovish chirps acknowledging the deterioration in economic data and a fresh OCR track. 

“In a purely technical sense, the RBNZ’s OCR track indicates a 35% chance of another hike. We’d expect that risk to be all but removed next week and instead the focus will turn to the timing of cuts,” Kerr says.

For now, the RBNZ has said monetary policy must remain restrictive to get inflation sustainably back within its 1-3% target band.

Where he disagrees when interest rate cuts will begin. “The last OCR track indicates rate cuts by about mid-next year, while we continue to call for cuts to commence in November.”

Kiwibank sees inflation returning to the RBNZ’s target by the September quarter, but data and confirmation doesn’t come through until mid-October, leaving November as the earliest kick-off date for rate cuts.

However, amidst interest rates, the cost-of-living and a falling housing market, Kerr says the risks to the downside cannot be ignored, especially as monetary policy works with a lag of 18 months to two years.

Long-term strategy

Westpac chief economist Kelly Eckhold says he doesn’t see a significant change in the ‘watch, worry and wait’ strategy the RBNZ has been following since last year’s Monetary Policy Statement.

Eckhold expects the RBNZ to reiterate that while economic growth remains weak, inflation pressures remain elevated.

“There is little to support the idea that interest rates can be cut earlier than the RBNZ previously assumed of early to mid-2025.

Westpac sees three main scenarios:

• Baseline case (70% probability): the RBNZ retains a similar OCR track as in the February MPS i.e., a peak OCR in the third quarter consistent with a 40% chance of an OCR increase to 5.75%. The forward profile in 2025 would also be similar with persistence in domestic inflation balanced by weaker growth.
• Hawkish case (20% probability): the OCR profile returns to where it was in November 2023 which implied about a 75% chance of a rate hike in Q3 this year. This will occur if the RBNZ concludes domestic inflation is sufficiently sticky that a return of inflation close to 2% in 2025 now looks remote.
• Dovish case (10% probability): the RBNZ downgrades its outlook for growth and dismisses concerns about domestic inflation concerns. The OCR profile shifts to bring forward an easing to the first quarter of next year. The earlier start to easing could imply an OCR at 4.5% by year end 2025. This will occur if the RBNZ is confident weak growth momentum and a widening output gap will generate lower non- tradable inflation outcomes as the year progresses. The RBNZ will implicitly leave open the possibility of a November easing should its expected low non- tradable CPI outcomes eventuate in Q2 (data released July) and Q3 (data released October) and if further downside risks to growth emerge.

CPI reading the clue

BNZ’s chief economist Mike Jones says it’s the third quarter CPI reading that really matters.

The bank’s annual CPI forecast for the third quarter this year is just 2.7%, the lowest since March 2021.

However, Jones says there is a big missing link in the BNZ and Reserve Bank’s growth forecasts and that is the impact of fiscal policy, especially the Government’s tax cuts, on activity.

“There is no doubt tax cuts will boost private consumption and GDP but this will also be at least partially offset by government cuts elsewhere.”

So, Jones thinks the RBNZ will simply stick to the same story it delivered in February and April.

“If the central bank wants to send a little signal about how it sees things evolving then a small nudge in its interest rate track would be a good way to do this but we’re not sure anything will happen in this space either.”

Sitting tight

Sharon Zollner, the ANZ’s chief economist, says a lot still needs to go the RBNZ’s way before it can contemplate OCR cuts.

She says economic drivers that provide confidence disinflation will continue are:

• High net migration appears to have turned a corner and could fall quickly but the RBNZ needs to bear in mind possible lagged impacts on demand.
• Housing appears to be tracking broadly sideways and forward indicators are soggy.
• Business and consumer confidence is dire with a renewed consumer pessimism that appears to be driven by heightened job insecurity rather than high inflation.
• Terms of trade fell like a stone in the fourth quarter last year, reflecting higher import prices and lower export prices. Some of this softness will unwind, but the weak global economy, particularly China, suggests upside is limited.
• The government sector is shrinking to make way for a larger-than-otherwise private sector, via tax cuts. Tax and spending cuts are likely slightly contractionary if households save a portion of their tax relief or spend a greater proportion on imports than the government would have. In addition, the job cuts will certainly detract from demand. While reducing the tax base doesn’t seem like a solution to the country’s long-run problems, reducing government spending will hopefully deliver better value to taxpayers.

The ANZ says there may also be further spending cuts in next week’s Budget and beyond.

It continues to pencil in OCR cuts from May 2025, but the data will ultimately determine when the RBNZ pulls the trigger. Zollner’s sense is that risks are shaded to an earlier start to cuts than forecast.