MNI INTERVIEW: Rates At Peak, No Cuts Soon-RBNZ's Conway

The Reserve Bank of New Zealand’s Official Cash Rate has reached a contractionary level at 5.5% and will likely stay there until mid-2024, despite market expectations for an earlier cut, RBNZ Chief Economist Paul Conway told MNI.

Barring any further shocks or changes, the RBNZ has finished adjusting monetary policy for now but is set to hold, Conway added. His remarks run counter to market expectations, which has the rate falling by February.

“If things change, we will react but based on our best forecasts of the economy at the moment, we see the OCR hanging at 5.5% for the next 12 months,” he noted. “We said the OCR needed to get to our peak of 5.5% for the last four months and we haven't changed that. From an economic perspective, as opposed to a market perspective, we’re doing what we said we would do.”

The RBNZ reverted to a smaller 25bp rise to reach its expected peak Official Cash Rate last week, decelerating from the 50-75bp moves seen since February 2022. The Reserve noted in its release and accompanying quarterly Monetary Policy Statement that higher rates had begun to slow the economy and reduce inflation. (See MNI BRIEF: RBNZ Hikes OCR To 5.5% "Peak," Rates Restrictive)

MAXIMUM SUSTAINABLE EMPLOYMENT

Leading into the decision, commentators and analysts tipped high levels of immigration and its impact on the labour market and inflation would feature prominently into the committee’s decision. The accompanying MPS forecasted unemployment to reach 4.9% in 2024 and 5.4% in 2025 before reducing to 5.2% in 2026, a stark change from the 3.4% recorded over the March quarter..

Conway said a softening in the labour market was essential to return inflation to the Reserve’s 1-3% target and that the higher forecasted levels of unemployment were consistent with the Reserve achieving both aspects of its remit.

“The labour market has been incredibly tight in New Zealand over the last few years,” he said. “It's clear that the labour market needs to soften, so we're comfortable with our forecasts for unemployment and think they are consistent with us achieving our remit.”

He noted the recent high levels of migration were likely temporary. “We see it as pent-up demand… so we've got it dropping away reasonably quickly, but into pre-Covid levels, which is still very strong at 38,000 migrants a year on net.”

VOTES CAST

Last week's rate rise came after a 5-2 vote, the first time a vote has been used for a decision. RBNZ Governor Adrian Orr said the Committee was in “broad agreement” on the monetary policy outlook, just not on the OCR itself.

Conway explained the Committee agreed the OCR should peak at 5.5%, and that disagreement focused on timing. “Some of us thought that now was an opportune time to wait and see how that 500bp put into the system played out,” he noted. “That was the essence of the vote – to do zero or 25bp, but there was consensus on the track of the peak at 5.5%.”

He said the vote was a useful tool when the rate had reached its “turning point.”

“It becomes more likely that reasonable people will have a different view of exactly what that turning point in the rate cycle looks like,” he continued. “It's more likely that voting will be used around turning points rather than during easing or tightening cycles.”

INFLATION FORECAST

Conway predicted inflation could fall away quickly over the rest of 2023. “But it is still a long way to move from 6.7% to 2% – the middle of our target band,” he added. “That feels like it's a long way from here, even though things are moving in the right direction. “We've had headline CPI fall away, but core inflation is still hanging up there. A lot of the decline in CPI in the last quarter was driven by tradables inflation… whereas domestic homegrown inflation is still elevated.”