Data Flash (New Zealand)
Key points
Contrary to average market and analyst expectations, the RBNZ increased the official cash rate (OCR) by 25 bps to 5.00%
when it released its quarterly Monetary Policy Statement.
The Bank's projections for 90 day bank bill rates imply a rise in the OCR to 6.25% over the next twelve months. The
commencement of a renewed easing cycle was projected for the second half of next year.
We expect 25 bps rate hikes on the next two review dates of 17 April and 15 May.
The tone of today's statement was hawkish, concluding that the risks to the above interest rate outlook are mildly to
the upside.
The RBNZ's key concern is the pace of domestic demand, particular with respect to the housing market. The Bank has
concluded that the demand effect of the currently high rate of net inward migration outweighs the associated increase in
the economy's supply potential. With the economy already operating at full capacity, that is generating inflation risks.
While the RBNZ still sees residual risks to the global outlook, it concludes that those have reduced further since late
last year.
The RBNZ has lifted its growth expectation for the next 12 months from 1Ÿ% to 3%, with a moderation to around 2Ÿ%
thereafter.
Consistent with the upward revision to the near-term growth profile, the Bank has lifted its inflation forecast profile
by around 0.5% over the entire forecast period (see chart), with inflation not expected to fall back to the mid-part of
the 0-3% target range until the middle of 2003.
Initial market reaction
Physical bank bills sold off 13 bps, while short futures were off 20 bps. Short bonds sold off around 20 bps, with long
yields only up 2 bps. The NZD weakened by around 10 points.
Our assessment
It is difficult to argue with the economic rationale for today's rate rise by the RBNZ. Domestic demand is strong, net
migration is fuelling the housing market, global risks have diminished, inflation is sitting in the top third of the
0-3% target range. While all that suggests that the economy does no longer need the stimulus the RBNZ injected into the
system following 11 September, it does not imply that an early tightening step was required.
The Bank faced various options regarding the timing of the first tightening step. It chose the most aggressive and
controversial one, thereby risking to give up the gains to its reputation made in 2002 when it operated policy in a
mainstream manner.
It appears that the RBNZ again failed to fully appreciate the dynamics of the market. The Bank commented in its risk
assessment on page 28 of the Monetary Policy Statement that it considered the pre-MPS market pricing of rate hikes too
aggressive. That suggests that there was no need to tighten today, since the market had effectively done the work for
the RBNZ already. Today's rate increase has fuelled market expectations even further, with 90 day interest rates now
expected to reach 7.50% next year. In our view, this market development, which was entirely predictable, provided the
strongest rationale for why it would have been advisable to defer a rate increase. The Bank had `breathing space' until
May, which it could have used to evaluate key labour market and wage data (to be released early May). That data will
shed some more light on the key issues of inflation pressure and current growth of supply - both of which are central to
the dynamics of the tightening cycle.
Since the RBNZ started the tightening cycle today and argued that significantly more of last year's easing will have to
be taken out of the system, we put very high probabilities on 25 bps rate rises in both April and May. The risk is
biased towards a 50 bps in May if the data continue to surprise on the upside.
Ulf Schoefisch, Chief Economist, New Zealand