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RBNZ meeting: Optimistic, with a touch of caution | Investing.com

The Reserve Bank of New Zealand will conclude its latest meeting at 02:00 GMT Wednesday. The economy is booming and market pricing suggests the central bank will probably raise interest rates in November this year. Even if the RBNZ tries to calm markets down and the takes a hit, the overall picture seems promising.

Booming

New Zealand’s economy is firing on all cylinders. Economic growth easily overcame the RBNZ’s own forecasts in the first quarter, the housing market is on fire, and a range of business surveys point to a hot labor market along with intensifying inflationary pressures. Inflation expectations are moving higher as well, which implies this phenomenon might not be entirely ‘transitory’.

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Normally, all this would argue for even faster rate increases. Demand is starting to run hot and it’s better to take your foot off the accelerator gently now, than waiting until inflation runs rampant and having to slam on the brakes, shocking the economy.


The main issue that might keep the RBNZ cautious is the slow pace of vaccinations. Domestic infections are still extremely low, but that’s mainly because the nation’s borders remain closed, hammering the tourism sector. Moreover, with the Delta variant spreading like wildfire abroad, New Zealand’s commodity exports could take a hit.

Balancing act

Bearing all this in mind, markets have priced in an 80% probability for a rate increase by November this year, with a second one to follow by spring. Investors believe the RBNZ will be the first major central bank to raise rates this cycle.

This has costs and benefits. The bright side is that the market is already doing the central bank’s job – pricing in sharp rate increases means less risk that inflation spins out of control. Unfortunately, it also means higher costs of lending today, which could slow down the recovery.

It’s a tough spot for the RBNZ. The solution might be a ‘middle of the road’ approach that allows policymakers some flexibility about how soon rates might rise. They could signal rate hikes have moved closer by cutting the sentence that ‘considerable patience’ is required before meeting their economic objectives, but also highlight the various uncertainties.

RBNZ meeting: Optimistic, with a touch of caution | Investing.com


The RBNZ won’t commit to anything until it gets a look at economic data for the second quarter, which will follow after this meeting. Inflation stats are out on Friday, before jobs data in the first week of August. Hence, the real action will come at the August meeting, when the Bank also publishes new economic and interest rate forecasts.

Market reaction and kiwi outlook

Turning to how markets might react, a disappointment seems likely. When the market already expects a rate increase in November, it’s difficult to surprise in an upside manner. Much of the hawkish story is already priced in.

That doesn’t mean a positive reaction can’t happen, but if the RBNZ truly wants to retain some flexibility and doesn’t commit to anything so early, that’s likely to be seen as a negative for the kiwi. Some more scorching-hot data are needed for that commitment.

In the bigger picture though, the outlook for the kiwi seems positive. The economy is booming and ultimately, it doesn’t make a huge difference whether the RBNZ raises rates in November or February. What matters is that it will be the first major central bank to do so.

The kiwi hasn’t responded much to hopes for monetary tightening so far, but this could change. Rising yields have been accompanied by rising inflation expectations, keeping real yields flat. Inflation fears could fade once the RBNZ exits cheap money, allowing real yields to rise.

Overall, the kiwi is likely to perform best against the currencies whose central banks won’t be raising rates over the coming years – namely the yen, euro, and Swiss franc.

RBNZ meeting: Optimistic, with a touch of caution | Investing.com

Taking a look at kiwi/yen, a disappointment by the RBNZ could see the pair head towards the 76.00 region.

On the flipside, if buyers stay in control and manage to pierce above 77.20, their next target may be the 78.75 zone.



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