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The RBNZ has opened the door to rate cuts

Lower interest rates may be on the horizon after the Reserve Bank said it was heeding repeated warnings that the economy could be faltering faster than it had planned.

Just two months ago, the RBNZ’s Monetary Policy Committee suggested the official cash rate should remain at 5.50% until August next year and could even rise by a further 25 basis points.

This hawkish view appears to have evaporated, with the committee instead discussing at its July meeting the risk that policies were weighing too heavily on demand.

He Record of meeting He said there was now evidence that the economy was operating below its potential capacity, and Recent surveys and the data showed that business activity was declining.

“Members discussed the risk that this could indicate that tight monetary policy is transmitting domestic demand more strongly than expected,” it said.

BNZ senior market strategist Jason Wong said the comments had opened the door to rate cuts.

“The language of May that talked about rate hikes is gone and the MPC appears to have taken into account the recent flow of dismal data on economic activity,” he said.

In recent weeks, high-frequency data has been flashing warning lights that were last seen during the 2007-2008 global financial crisis and the brief pandemic crisis of 2020.

This prompted some economists to Rethink your OCR forecasts and may have prompted the RBNZ to do the same.

Abhijit Surya, an analyst at Capital Economics, said the central bank had suddenly abandoned its usual stance that interest rates should remain restrictive for “a sustained period.”

Instead, the RBNZ’s new stance is that “the extent of this tightening will moderate over time in line with the expected easing of inflationary pressures.”

This overly poetic expression simply means that rates will be reduced as inflation declines.

Spring cleaning

Although still unlikely, this raises the possibility of interest rate cuts at the August and October meetings. Markets are already expecting the policy rate to fall below 5% in November.

That price could signal regular-sized cuts starting in August, or the RBNZ using a 50-basis-point cut in October or November to kick off the easing cycle with a bang.

Wong said cuts were more likely to start in November as the RBNZ preferred to make big changes alongside a full Monetary Policy Statement and August might be too soon.

UBS economist Nic Guesnon said he did not expect the Reserve Bank to change its tone so soon and that there was now a “material” chance of a rate cut in August.

But Surya agreed that the Reserve Bank would want to wait until hard data confirmed what economists were currently reading in the tea leaves.

“However, with third-quarter CPI data likely to show inflation back in the target range, a policy shift in November seems like a no-brainer for the Bank,” he said.

And once monetary policy starts to ease, it could quickly unravel. Capital Economics expects the official interest rate to be set at 3.5% by the end of 2025.

Flimsy flip flops

Amid the chorus of voices announcing imminent rate cuts, some economists still sounded a note of caution.

Sharon Zollner, chief economist at ANZ, said the market reaction was understandable as the record of the meeting “looked like a mini-pivot”.

“But we think it is overstated to call this a radical shift, given the Committee’s assessment of balanced risks to inflation and its caution regarding the impact of tax cuts,” he said.

The easing cycle was looking increasingly likely to begin in November, but Zollner remained faithful to his February forecast for now.

Infometrics chief forecaster Gareth Kiernan also said he would maintain his February forecast until the central bank gave more robust guidance.

Just six weeks ago the committee was talking about raising interest rates, he said.

“The Reserve Bank’s habit of changing its stance and tone of message from one statement to the next means we remain cautious about the timing of the first OCR cut.”

“It is hard not to get frustrated trying to figure out how the Committee can change its mind so substantially every six weeks.”

All recent monetary policy decisions have been unanimous and the specific words used in the minutes of the meeting are also signed by all committee members.

Next week’s consumer price index data and labor market statistics for early August will help confirm or contradict recent high-frequency data.

Kiernan said economic data may have to be substantially weaker than what the central bank has already forecast to justify starting its easing cycle 10 months earlier than planned.

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