The RBNZ Observer: Comfortably on hold

The RBNZ Observer: Comfortably on hold

• CPI inflation fell to just +1.0 y-o-y in Q3, which is the bottom edge of the RBNZ’s target band
• At the same time, activity indicators continue to paint a picture of robust economic growth at an above-trend pace
• Given this plumb position, we see the RBNZ remaining on hold next week, but we still see further rate hikes in H2 2015, as we expect inflation to pick up from here

Low inflation could prompt a more dovish outlook
The RBNZ will no doubt head into the end of 2014 feeling rather pleased. Having delivered 100bp of hikes between March and July, it has taken some of the steam out of the economy; however, at the same time, activity has not slowed dramatically. House price inflation has eased to a much more comfortable pace and inflation remains low.

Indeed, inflation has continued to undershoot expectations. At just +1.0% y-o-y in Q3, inflation was well below the RBNZ’s forecast, published in September, of +1.3% y-o-y. The set of forecasts published next week will, therefore, have a lower starting point for inflation and is, therefore, likely to look more dovish than the previous set – perhaps significantly so.

In September, the RBNZ’s published 90-day rate forecasts implied that it expected the next hike would come in H1 2015. With a lower inflation outlook, this hike is likely to be pushed out by a quarter or two at least, in our view.

Given continued low inflation, we believe it is reasonable to ask whether the RBNZ was perhaps too aggressive in lifting the cash rate four times in a row. Certainly doing so was a risk, given the uncertainty over what impact higher interest rates would have on the economy. However, it does appear to have left the economy in a plumb position of high growth and low inflation, at least for now. It is also fair to say that the central bank is ahead of the game, which often means it may not have to tighten policy as much in future to keep inflationary pressures under control.

Looking ahead, we expect that over 2015 the lower NZD will put upward pressure on tradable inflation and continued growth in the domestic economy will push non-tradable inflation higher. With the cash rate still well below neutral, rates will most likely have to rise further at some point, in our view. We have two 25bp hikes pencilled in over H2 2015 and another two 25bp of hikes pencilled in for 2016.

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ENDS

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