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RBNZ's Orr to stand pat as he navigates growth-inflation tightrope

Friday 3rd August 2018

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Reserve Bank governor Adrian Orr is widely expected to keep interest rates on hold at next week's review and continue to indicate the next move could be up or down as he walks a tightrope between slowing growth and emerging inflation. 

All 16 economists polled by Bloomberg expect the official cash rate to remain on hold at a record low 1.75 percent next Thursday and the median of 11 expect rates to lift to 2 percent by the third quarter of 2019. 

The central bank has been on hold since November 2016 and signalled the next move could go either way. Its forecasts show the OCR rising to 1.9 percent in September 2019 from a current 1.8 percent. A full rate increase is still indicated by March 2020 when the benchmark rate is forecast to be 2 percent.

"The economy has been sending out contradictory signals for monetary policy as it so often does – growth is slowing, but inflation is picking up. We expect that these positives and negatives will roughly offset one another in the Reserve Bank’s deliberations, meaning that it will stay on roughly the same course as it charted in May," said Westpac Banking Corp chief economist Dominick Stephens. 

He said the evidence is piling up in favour of a cooling economy as everything from business confidence to consumer spending has slowed. According to Stephens, the central bank is going to have to trim its growth forecasts and "that will be a powerful argument against official cash rate hikes." 

In the latest monetary policy statement, the RBNZ tipped growth to accelerate from 2.9 percent in the March quarter to 3.3 percent in March 2019 before easing to 3.2 percent in the March quarter of 2020. Growth in March, however, was only 2.7 percent on the year. 

Stephens also said the central bank's goal of 2 percent sustained inflation now looks more attainable and this counteracts the slowing economy from a monetary policy perspective and supports a hike.

The consumers price index rose 0.4 percent in the three months ended June 30, while annual inflation was 1.5 percent, however, there were emerging signs of wage inflation in labour data this week as the impact of a lift in minimum wage kicks in and migration continues to slow.

Paul Dales, chief Australia and New Zealand economist for Capital Economics, said the economic backdrop means the bank may signal rates will be on hold for even longer.

"Recent developments have supported our view that both the financial markets and the RBNZ may have to push back their expectation of when interest rates will first rise," he said. 

Dales said the overseas backdrop is a bit softer and "more importantly, the latest evidence suggests that the domestic economy has lost more momentum." 

He expects the central bank to revise down its gross domestic product forecasts. Still, that doesn’t mean that the Reserve Bank will seriously start considering whether interest rates need to be cut but "the weaker growth outlook does mean that the RBNZ may conclude that the first interest rate hike is a little further away." 

ANZ Bank New Zealand said rising inflation is being driven in large part by one-off factors – minimum wage increases, tax changes, and higher oil prices.

Chief economist Sharon Zollner said the central bank "can accommodate such cost-push disturbances, provided inflation expectations are well anchored, implying the effects will dissipate." At this point, expectations appear to be anchored, she said.  

She expects the central bank to reiterate recent neutral messaging, even though a rate cut now looks less likely. "Core inflation has increased but downside risks have not gone away, and should these materialise a cut would be firmly on the table," she said. 

Zollner added, however, the RBNZ will want core inflation much closer to the midpoint of the target band (or even an overshoot) before a hike will be on the table, particularly given the softer activity outlook.


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