Timing is the essence of OCR moves

The Reserve Bank of New Zealand (RBNZ) announced on Thursday, February 9, 2017 that it would maintain the Official Cash Rate (OCR) at 1.75%, as widely expected.

The language of the media statement largely retained the neutral tone from November. The RBNZ concluded that “monetary policy will remain accommodative for a considerable period,” and noted that there are still significant uncertainties in the economic environment.

Subtle lift

However, there was a subtle upward shift in the RBNZ’s interest rate projections.

Over most of the forecast horizon, the projected OCR was lifted from 1.7% in November to 1.8% in February. Both numbers are equally consistent with a 1.75% cash rate (after rounding), but the latter eliminates the small possibility of another rate cut in this cycle.

In addition, the projected OCR track is no longer completely flat, but now curves upward slightly towards the end of the forecasts, implying a 2% cash rate by early 2020. While this is the mildest of tightening biases – we would give better odds of the first OCR hike coming earlier than this date rather than later – nevertheless it sends a clear signal that the next OCR move is expected to be up.

Positive outlook

The RBNZ remains positive on the outlook for the domestic economy, and cautious about the global environment. However, there were some more upbeat comments on the global backdrop, including higher commodity prices, an uptick in headline inflation, and monetary policy moving away from super-accommodative settings.

The RBNZ acknowledged that headline inflation is back within the 1-3% target range, but repeated that the return to the 2% midpoint is likely to be gradual. In fact, the RBNZ does not expect inflation to reach 2% until June 2019, six months later than previously thought.

The continued strength of the New Zealand dollar means that tradable goods inflation is forecast to remain near-zero or negative for the next few years.

That leaves the RBNZ even more dependent on strong domestic growth, driving a lift in non-tradable prices, in order to meet the inflation target.

Hawkish tilt

While the RBNZ statement had a slightly more hawkish tilt than we were expecting, it was a far cry from the OCR hike by end-2017 that financial markets were pricing in. Consequently, the New Zealand dollar fell about half a cent to 0.7250, and the two-year swap rate fell five basis points to 2.35%.

Our view on the OCR is broadly in line with the RBNZ’s statement: the first hike is too far out to be precise about the timing.

All the signs point to inflation dwelling the lower half of the target range for some time. On that basis, the case for reversing the recent OCR cuts any time soon looks weak.

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