How bold will the RBNZ be?

Kiwibank says Wednesday’s rate decision is pivotal in setting the trajectory in financial markets, and the wider economy, heading into next year. 

ASB chief economist Nick Tuffley says the economy needs a circuit-breaker to to overcome uncertainty and create courage for households to spend and businesses to invest.

“The onus is now on the Reserve Bank to work to overcome the effects of its post-Covid tightening cycle.”

Both banks along with Westpac expect a 0.50% cut to an OCR of 2.5% next week.

The BNZ and ANZ are sticking with their forecasts of 0.25% cuts in October and November.

Kiwibank chief economist Jarrod Kerr says rate cuts so far have simply returned monetary policy to “neutral” settings.

It is only next week’s eighth cut in the cycle that will work to add stimulus into the economy, he says. 

“It’s clear that our economy needs support. There’s simply no other way to put it: the Kiwi economy is underperforming. It’s underperforming our already weak forecasts. And it’s underperforming our peers around the world.

“It’s saddening to see an economy still contracting after last year’s deep and destructive recession. We fell into a hole then, and we’ve only dug ourselves deeper.”

Kerr says the current OCR of 3% isn’t stimulatory, and it isn’t encouraging excessive behaviour or inflation.

“We need a stimulatory rate if we’re going to encourage businesses to take on risk – either invest or hire. And we need a stimulatory rate if we’re going to see embattled households boost discretionary spend.”

He says 2.5% is closer to what the country needs. “And the risks are towards a 2% cash rate, in our opinion.” 

Boosting confidence

In Westpac’s view, there isn’t a good reason to delay a move to an OCR of 2.5%.

Quickly moving the OCR to a stimulatory level will boost confidence and activity ahead of the important Christmas and summer trading period, Kelly Eckhold, Westpac chief economist says.

This may also reduce the likelihood that even further monetary policy support is required in the new year – a year in which domestic political uncertainty is likely to grow if opinion polls continue to point to a tight General Election.

Westpac expects the RBNZ to maintain an easing bias, with the prospect of a further reduction in the OCR at the November meeting conditional on the flow of data to come (which will include the September quarter inflation and labour market reports).

“We doubt the RBNZ monetary policy committee (MPC) will want to be seen as delaying stimulus and encouraging the public and businesses to hold back spending, hiring and investment decisions in anticipation of more policy action later, Eckhold says. 

“This type of behaviour has been a feature of the easing cycle to date and may have contributed to a slower than ideal response to the 250bp of cuts already implemented.”

He says it is also worth noting that given current market pricing, it’s probably hard for the RBNZ to cut the OCR by just 0.25% and not cause interest rates to rise somewhat.

“What would be required is a relatively strong commitment to cut rates significantly in November. This would raise the question of why a greater easing wasn’t occurring now?

Bumpy recovery

ASB is anticipating aggressive action from the RBNZ at next week’s meeting to to "jumpstart" the economic recovery.

It says while the recovery is taking longer than hoped, resilient export performance and improving consumer spending are providing a "strong foundation for cautious optimism.

Chief economist Nick Tuffley says the road to recovery is proving bumpy, but there are encouraging signs that New Zealand is finding its footing.

“While the June quarter took a hit, we’re seeing the seeds of a domestically driven recovery, with lower interest rates and resilient export performance providing a foundation for growth.”

He expects the ASB expects the RBNZnk to deliver a 0,50% cut to the OCR next week, with a further 0.25% cut likely in November – bringing  the OCR down to 2.25% before Christmas.

This is expected to provide relief for mortgage holders and support a gradual recovery in house prices.

Tuffley says, however, a structurally higher cost environment, a lacklustre wealth effect from a sluggish housing market, and a lower spending propensity given the erosion of savings buffers make it harder to convince us that this will be a “rockstar’ recovery - perhaps more indie pop/soft rock star”.

“The coming year will be crucial in determining whether these early signs of improvement can develop into sustained growth and renewed confidence for households and businesses as the country continues to navigate the speed bumps of recovery.”

More than one way to skin a cat

While there are good arguments on both sides for either a 0.50% or 0.25% OCR cut, the ANZ is sticking with its dovish 0.25% cut as it provides the most optionality, which is of great value in times of uncertainty.

Chief economist Sharon Zollner says the decision to cut 0.50% vs 0.25% will come down to:

• how much signal the monetary policy committee takes from the GDP and other data, and how far away it thinks the OCR is from where it should be  
• where the committee lands in the familiar speed versus certainty trade-off – the risk of a flip-flop versus the risk of being late
• which option will result in the least amount of financial market volatility (which is determined by what’s priced in)
• and potential model assumption changes and/or estimates of the “unobservables” (neutral, NAIRU, output gap), which could also trigger a reassessment of what’s deemed an appropriate monetary policy stance.

She says one risk the ANZ is becoming a little more wary of is the possibility the country talks itself into a slower recovery than would otherwise be the case.

“Some of the weakness in the Q2 GDP data was noise and support is on the way in the form of further monetary easing, but if firms and households lose faith, it can ultimately mean the RBNZ needs to do even more to shore up the recovery. “

For our part, she says the ANZ is we’re open minded. “There is more than one way to skin a cat. Not cutting 0.50% in October doesn’t rule out a 0.50% cut in November and/or ultimately cutting the OCR lower than 2.5%.

“It boils down to the familiar speed versus certainty trade-off. Is the GDP data enough on its own to change the committee’s mind about the appropriate stance of policy, or will it want to wait for more evidence?

“It’s hard to tell. But all else equal, if the RBNZ doesn’t cut 0.50%p, there is more downside risk to where the OCR ends up bottoming out, and vice versa.”

Odds pared back

Although the June quarter GDP weakness caused a flurry of excitement that the RBNZ may cut the OCR by 0.50% next week, the BNZ is not convinced.

The bank’s GDP forecast for the September quarter is 0.7% growth compared with a 0.3% pick from the RBNZ.

A result like that would see annual GDP growth lift to 1.1% in the third quarter, from -0.6% in the second quarter closing in on the RBNZ’s estimate of potential growth with economic recovery in its infancy, Mike Jones, BNZ chief economist says.

“Generally, there appears to be some recovery occurring post the second quarter judging by high frequency indicators like electronic card transactions, meat and milk production, vehicle registrations, merchandise trade, and job ads.”

He says these timely assessments and summary indicators like KiwiGDP are important as the RBNZ has put more emphasis on lead indicators of late.

“Pulling together the combination of a weak second quarter GDP, an expected bounce in the third quarter, and potential growth likely being nudged lower means the net difference on medium term inflation pressures relative to the RBNZ’s expectations may well be quite muted.”

Jones says the market appears to have come to a similar conclusion recently paring the odds of a 0.50% cut next week, albeit with pricing still consistent with around a 20-25% chance of such a result.

“That seems about fair to us. All that said there is a real risk that a battle-shy RBNZ suffers sticker shock from the second quarter GDP outcome and is not willing to wait for the third quarter GDP results to be published in December, so does cut the cash rate 0.50% next week.

“We’re sticking with our central view of two more 0.25 % cuts, in October and November, for the time being. We want more information on likely growth prospects and inflation pressures before considering any shift,” he says.