RBNZ Triggers Huge NZD Rally
NZD shot over 60 pips higher in wake of the RBNZ’s latest rate decision. They left the cash rate at 1%, as expected. The surprise that sent NZD higher was the Bank’s OCR forecast (this is the bank’s forecast for where it thinks rates will be at various points in time in the future).
The latest OCR forecast implied that the RBNZ had dropped its bias towards lower rates and is actually contemplating raising rates, albeit in the distant future.
In terms of the specifics; the OCR profile was moved up from 0.9% in 2020 to 1%. Over 2021/22, the OCR profile was lifted on average by 15bps, meaning that the RBNZ forecasts now place a roughly 80% of a rate hike to 1.25% in Q3 2021, with a hike fully implied by the end of 2021.
Remember, higher rates are positive for any given currency. Would you rather park your money somewhere with a high-interest rate or a low one? Exactly. So when the RBNZ removed its bias towards lower rates and actually indicated a hike in just under two years, this is massively NZD positive.
Another more hawkish than expected aspect of the report was the fact that the RBNZ characterised the impact of the coronavirus as only of a “short duration” and to last 6 weeks.
Many had expected the bank to show more concern than this, implying that the bank has now raised the bar to further easing. I.e. they are more seeing things more as a glass half full than half empty and as such will be less inclined to ease policy further.
Why is the RBNZ optimistic?
Firstly, the New Zealand labour market is strong. The RBNZ noted that "employment is at or slightly above its maximum sustainable level", an upgrade in the language from last meeting’s "remained around" the maximum level. As a reminder, the New Zealand unemployment rate unexpectedly fell to 4.0% in Q4 2019.
Meanwhile, inflation is seen as “close to the 2 percent mid-point of our target range", an upgrade from the November meeting where inflation was seen as "below" target (Q4 inflation was also better than expected, hence the upgrade).
The Bank's upbeat outlook is evident when it states "economic growth is expected to accelerate over the second half of 2020". Remember, recent data out of New Zealand has been solid (GDP, retail sales and NZIER business confidence), so this optimism is not unfounded.
Other positives driving the Bank's optimistic outlook, as listed by TD Securities, are 1) Fiscal stimulus supporting aggregate spending (the RBNZ said the "impact of fiscal stimulus could be more than expected"); 2) higher house prices supporting consumption (RBNZ said that an "increase in consumption growth could be more persistent than projected"); 3) higher terms of trade to boost incomes (the RBNZ said “We project the terms of trade to remain elevated over the projection period") and 4) finally the RBNZ noted how low-interest rates are supporting domestic growth.
New Zealand based bank ASB conclude that “we no longer think that the RBNZ will cut the OCR – unless the impacts of the coronavirus prove to be much larger and more prolonged than the short, sharp impact viral outbreaks tend to have. Barring coronavirus, an OCR cut would be unlikely.”
Looking ahead, there is a risk that NZD could be one of the outperformers this year. In recent weeks, it has been smashed by coronavirus concerns, but these have started to ease. Couple that with New Zealand's domestic economy, which has been improving. All of this is NZD positive.
Remember also that the RBA, BoC, BoE and Fed may all cut this year. The ECB might even adopt an easing bias. With the RBNZ on hold for the foreseeable future, there is the potential for a lot of monetary policy divergence in favour of NZD.
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