"But the odds probably aren't much better than a coinflip at this point in proceedings," an economist says
ASB economists said the odds of the Reserve Bank needing to lift the official cash rate by 50 basis points at each of the next rate reviews continue to “edge up,” but they’re sticking with their forecast of a 25-basis-point hike for now.
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RBNZ will hold its next interest rate review on April 13, followed by another review and full Monetary Policy Statement on May 25. In theory, RBNZ uses the OCR to maintain inflation rate within the 1% to 3% range, with an implicit “midpoint” target of 2%. But with annual inflation hitting 5.9% as of the December 2021 quarter, economists now expect it to hit 7.5% by the middle of this year.
After starting to raise the OCR in the second half of last year from the low point of 0.25% (it’s currently 1%), RBNZ flagged that it would take “measured steps” to tighten monetary policy – which was taken to mean that it would be lifting the OCR in 25bp increments, interest.co.nz reported.
All that went out of the window, however, when RBNZ said in its last Monetary Policy Statement in late February that it was “a finely balanced decision” whether to raise the OCR then to 1% or 1.25%. While it opted for the smaller 1% rise, it said it was “willing to move the OCR in larger increments if required over coming quarters.”
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In ASB’s latest Economic Weekly, economist Nathaniel Keall said that ASB economists were sticking with their forecast of 25bp hikes at each of the next two RBNZ meetings “for now,” but “the odds probably aren’t much better than a coinflip at this point in proceedings,” interest.co.nz reported.
Keall said policymakers “are in a tight spot” in the current environment.
“Typically, we expect the labour market to tighten when activity runs hot, pushing up wages and boosting inflation,” he said.
In that scenario, a quick tightening in monetary policy becomes “uncontroversial.”
“But in the current environment, it’s not strong economic activity that’s holding the smoking inflation gun: rising energy costs and logistics disruption are playing havoc with non-labour costs for many businesses,” Keall said.
And with unemployment at multi-decade lows as well, Keall said “RBNZ is faced with the task of continuing to hike while the growth outlook has darkened both here and overseas,” interest.co.nz reported.
“There’s even been the odd instance of Treasury yield curve inversion recently – a closely-watched indicator of a recession in the US,” Keall said. “Despite that dynamic, the odds of the [RBNZ] needing to hike the OCR by 50bps at both or either of the next two meetings continues to edge up in our view.”
Keall said there was “no perfect environment” in which to make monetary policy.
“...Uncertainty and the risk of unintended consequences are staples of the job,” he said. “All policymakers can do is make a call on which target they are at greater risk of missing. On that front, it’s still clearly that 1-3% CPI inflation band that the RBNZ is most clearly at risk of missing for a prolonged period. And bear in mind, it’s employment rather than growth that the RBNZ targets as the other part of its dual mandate. While growth and employment are obviously heavily correlated, the starting point for the labour market is so tight that slower growth and higher interest rates won’t necessarily be a big sucker punch. Indeed, eroding real incomes is probably the bigger risk for those on lower pay or in insecure work if inflation pressures don’t start to come down.”
ANZ economists have already predicted a 50bp hike at both the April and May rate reviews, which, if correct, would double the OCR to 2%. They reiterated this view in their latest NZ weekly Data Wrap.
“All up, it’s clear that the RBNZ’s measured approach thus far (i.e. hiking in 25bp increments) is not looking sufficient to bring inflation and inflation expectations back down quickly enough,” the ANZ economists said. “And the longer it takes for the RBNZ to really start to gain traction on inflation, the more the risk builds that inflation expectations will become significantly unanchored from the 2% target midpoint. We’re forecasting 50bp OCR hikes in April and May, which we hope will be enough to start bringing inflation down to a tolerable level.”
The ANZ economists said people “are clearly very concerned” about rising inflation – and “that’s understandable.”
They said “businesses are watching rapidly rising input costs squeeze their margins, while households on fixed incomes will be cutting back discretionary spending as the cost of essentials surges,” interest.co.nz reported. “Aggressive interest rate rises will put a dampener on economic growth as the RBNZ fights inflation, but we continue to forecast a ‘soft’ landing for the economy. That really reflects the crown jewel in the New Zealand economy right now – our extremely tight labour market. We’re forecasting that unemployment will drop slightly further from 3.2% at the end of 2021, to a new record low of 2.9% over mid-2022. In combination with rapidly rising wages over this year, we expect that should provide a pretty solid foundation for the economy to tolerate the strong (and necessary) medicine being administered by the RBNZ.”
