Thursday 27th October 2011
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The New Zealand dollar and swap rates climbed after Reserve Bank Governor Alan Bollard kept intact expectations for a hike to the benchmark interest rate in the first quarter, even in the face of global economic uncertainty.
The kiwi dollar rose more than half a cent to 80.06 US cents and swap rates gained by between 2.5 basis points and 3.7 points across the board after Bollard kept the official cash rate at 2.5 percent, and pointed at Europe’s sovereign debt crisis and the weakness in global financial markets as threats to the local recovery.
Traders are betting Bollard will hike the OCR by just 31 basis points over the coming 12 months, according to the Overnight Index Swap curve.
“This was slightly to the hawkish side of what we expected, as the weaker developments of recent weeks could have warranted explicitly pushing out the timing of rate hikes,” said Westpac economists Dominick Stephens and Michael Gordon in a note. “The RBNZ appears to have retained its September MPS (monetary policy statement) projection for rate hikes to resume around March next year; financial markets were previously pricing in a September start.”
Since last month’s MPS, New Zealand’s sovereign credit rating has been downgraded by Standard & Poor’s and Fitch Ratings due to the size of the country’s external debt, though the Treasury and the Reserve Bank are expecting household savings to improve as people repay debt and improve their personal balance sheets.
Still, a softer-than-expected 0.4 percent third quarter increase in the consumer price index helped quell fears inflation is creeping into New Zealand’s economy, and Bollard said “underlying inflation is settling near 2 percent,” which gives him room to keep rates lower for longer.
Earlier this year, Bollard indicated he was keen to remove the extra stimulus he added in response to the February earthquake, though that was put on hold as financial markets tumbled after the US credit rating was downgraded and the Euro-zone struggled to come to grips with the high level of debt among some of its members.
If Europe’s woes seep into the global financial system, New Zealand’s bank funding costs could increase over the coming year, Bollard said, repeating his warning from last month’s statement.
Still, European leaders reached agreement on Wednesday to introduce a 9 percent tier one capital ratio for the region’s banks in an effort to shore up the banking system. That leaves the size of the European Financial Stability Fund in dispute, along with how much the Euro-zone’s members will have to pay to bail-out heavily indebted Greece to prevent the Mediterranean nation’s problems from spreading.
Bollard’s decision to hold comes a day after the National Bank Business Outlook showed companies are less optimistic about the country’s economic recovery, with just a net 1.6 percent of firms expecting to be more profitable over the coming year.
A cut in Fonterra Cooperative Group’s forecast payout to farmers added to the local woes, with the dairy exporter cutting 45 cents per kilogram of milk solids for the 2011/12 season payment, and blaming the strong New Zealand dollar and weaker commodity prices.
Bollard said domestic economic activity is expanding at a “modest pace” and local business confidence has dimmed in recent months. Still, the rebuild of Christchurch will “provide significant impetus for demand” and stoke the economy when it finally begins in earnest.
The rebuild is expected to start later and take longer than previously forecast, and earlier this week the Treasury joined the Reserve Bank in lifting its estimated cost to $20 billion from $15 billion predicted in May.
If the global downturn’s impact on New Zealand is only mild, “it is likely that gradually increasing pressure on domestic resources will require future OCR increases,” Bollard said.
Last month, he said any rate hikes will be over the coming year so the Reserve Bank can assess the impact of the global downturn.
The central bank reined in its forecast track for the 90-day bank bill through 2012 and 2013, with the rate settling at 4.3 percent in the December quarter next year where previously it was seen climbing to 4.9 percent by the end of 2013 in the June forecast. The rate is often seen as a proxy for the track of the OCR.
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