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RBNZ likely on hold, all eyes will be on its interest rate forecasts

Friday 3rd February 2017

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The Reserve Bank's view on where interest rates might go down the track will be the focus of attention at next Thursday's rate review, given it's widely expected to keep rates on hold at a record low 1.75 percent. 

All 10 economist polled by BusinessDesk expect rates to remain on hold Thursday. The odds of governor Graeme Wheeler lifting the rate next week is zero, according to the overnight interest swap curve. 

There is some speculation the central bank may rejig its forecasts given the strength of the domestic economy, some signs of emerging inflation and the fact that the US Federal Reserve is on a tightening track. As a result, "the RBNZ’s published OCR track will be much watched," said ASB Bank chief economist Nick Tuffley. New Zealand's central bank is fairly unique globally in that it publicly forecasts where it expects interest rates to go over a three-year period. In November, it cut rates by 25 basis points to 1.75 percent and forecast they would remain at that level until the end of 2019. 

The solid economic backdrop has led the market to fully price in a rate hike by November but economists are more cautious with most expecting the first hike to come in 2018, according to the poll. 

Tuffley said the bank will likely leave the track around 1.7 percent to 1.8 percent in the near-term but said it may opt to lift the end of the track above that level as "leaving the OCR 'on hold' until 2020 now appears unrealistic."  

New Zealand's economy is still growing strongly and inflation moved back into the central bank's 1 percent to 3 percent target range for the first time in two years in the fourth quarter of last year. Inflation expectations are also likely to have increased in the next Reserve Bank quarterly survey due this month. While those factors might give it the confidence to point to eventual rate increases, it will also be balancing higher-than-expected unemployment in the fourth quarter, ongoing heat in the housing market and the still high New Zealand dollar. 

First NZ Capital director, economics and strategy Chris Green said the bank will be leery of stoking any rate hike expectations, particularly given current market pricing. "We expect the RBNZ will also attempt to present a solid neutral bias, sensitive that the presentation of any hawkish undertones could result in a further undesirable appreciation in the NZD," he said.

The New Zealand dollar is currently trading at 79.20 on a trade-weighted index basis, which is 4 percent higher than the central bank forecast it would be in the March quarter. 

Tuffley agreed that while having some tightening by the end of 2019 may be more realistic and still softer than market pricing "any hint of as yet higher interest rates risks unwittingly stampeding a market that is already ahead of itself." 

ANZ Bank New Zealand chief economist Cameron Bagrie noted "the odds of additional easing have clearly reduced. But that does not mean the discussion automatically shifts to hikes." While the market pricing would indicate a tightening bias is inevitable, Bagrie said a shift to neutral was more likely. He added, however, "the reality is that the market is unlikely to change its expectation that a hike is coming, and the risk is admittedly skewed towards that occurring this year."

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