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Daily Pivots: (S1) 1.3621; (P) 1.3648; (R1) 1.3682; More...

Intraday bias in USD/CAD remains neutral for the moment. Strong bounce from current level will confirm support by 55 D EMA (now at 1.3628). Break of 1.3689 minor resistance will argue that correction from 1.3845 has completed, and bring stronger rally to 1.3761 resistance. However, sustained break of 55 D EMA will argue that whole rise from 1.3176 has completed already, and turn outlook bearish.

In the bigger picture, price actions from 1.3976 (2022 high) are viewed as a corrective pattern. In case of another fall, strong support should emerge above 1.2947 resistance turned support to bring rebound. Firm break of 1.3976 will confirm up resumption of whole up trend from 1.2005 (2021 low). Next target is 61.8% projection of 1.2401 to 1.3976 from 1.3176 at 1.4149.

• The RBNZ left the OCR at 5.5% at its May policy meeting, as was widely expected.
• The RBNZ discussed the possibility of tightening at this meeting but concluded that they retain sufficient confidence to leave the OCR unchanged. Cuts were not discussed.
• The revised projections lifted the OCR track. A first easing is forecast in the August 2025 Monetary Policy Statement, which is pushed out from the previous May 2025 view.
• The track suggests a significant risk of a tightening in the November Statement. This could occur if forecast declines in inflation later in 2024 don't eventuate, but still seems unlikely.
• Inflation is forecast to fall back inside the 1-3% band in Q4 this year, and to return to 2% in Q2 2026. This is another significant revision outward.
• The RBNZ assesses the risk profile for inflation as lying to the upside in the shorter term and is more balanced over the medium term. The risk profile is decidedly to the upside for nontradables inflation pressures.
• The RBNZ's forecasts for economic growth have been revised down significantly, which helps them retain confidence that inflation will ultimately fall.
• The neutral OCR has been revised up 25bps to 2.75% - this is a driver of longer-term OCR projections.
• Today's RBNZ update leaves us comfortable for now with our forecast of a first policy easing in February next year, followed by only gradual policy easing thereafter. Future inflation data will be key in driving our OCR view with the risk that easing comes later than currently expected.

OCR remains on hold, tightening possible and rates higher for longer.

The RBNZ's May 2024 policy decision and the messages in the accompanying Monetary Policy Statement were surprisingly hawkish.

As polls of analysts had indicated and markets had priced, the OCR was left at 5.5%.

The key area of hawkishness was with respect to the forward profile for the OCR. The RBNZ defied market expectations and revised up their interest rate forecasts. These now incorporate a material risk of a hike in the November Statement, as well as a delay in the timing of the first easing from the May 2025 timeframe assumed in the February Statement to around August 2025 in the current forecasts. The RBNZ continues to maintain that monetary policy will need to remain restrictive for a sustained period to return inflation back inside the target range.

Two key factors are driving the RBNZ to this "higher for longer" position despite a weak domestic economy. Most importantly, the inflation news has not been as supportive as hoped – especially with respect to nontradables inflation. This has led the RBNZ to revise up their inflation forecasts and project a slower decline going forward. Secondly, the RBNZ has revised up its neutral OCR estimate to 2.75%. This latter change has a more significant impact on the RBNZ's longer-term OCR forecasts.

The RBNZ sees near-term upside risks to inflation that reflect the recent stickiness of non-tradable inflation. Further out, the weaker domestic economy and assumed favourable inflation expectations and wage dynamics help them retain confidence that given time inflation will fall to target. But that fall is taking longer than previously thought given the near-term upside surprises. The RBNZ have revised down their economic growth forecasts, but this is balanced by a downgrade in view of the economy's productive potential.

These near-term risks are likely to be important for the policy outlook. The OCR profile peaks at 5.65% in Q4 of 2024. This suggests a material risk of a further tightening in the November Statement (perhaps a 60% or higher chance). We think this raises the stakes of the inflation outturns due between now and November. The RBNZ will need these to significantly moderate to keep the 5.5% OCR peak strategy in place and leave open the prospect of easing in H2 2025. Having said this, the Governor and his staff went to pains to emphasise that these interest rate forecasts could not be taken literally given forecast uncertainties.

CPI inflation taking longer to cool.

The policy outlook above is based on a revised forecast that shows annual CPI inflation falling back inside the 1-3% band in the December quarter of this year – but only just. The RBNZ now forecasts that inflation will end 2024 at a rate of 2.9%. That's in line with our own forecasts but is considerably higher than their previous forecast of 2.5% inflation by the end of this year.

On top of that, the RBNZ now expects that it will take even longer to get inflation back to the 2% target mid-point. The May MPS forecasts don't have inflation back at 2% until mid-2026 (compared to late 2025 in their previous forecasts). That's even with the upward revision to their OCR forecasts.

The key issue for the RBNZ is the persistent strength in domestic inflation, which has surprised to the upside of the RBNZ's assumptions for a year now. The minutes accompanying today's decision noted that "persistence in non-tradable inflation remains a significant upside risk."

Like the RBNZ, we expect that non-tradable inflation will drop back over the course of this year, but only gradually. While inflation in interest rate-sensitive areas of the economy (like the cost of property maintenance) are dropping back, other prices like rents, insurance charges and local council rates have held at firm levels. But although the RBNZ is now factoring in a more gradual easing in those costs, we still think the RBNZ could continue to be surprised to the upside on this front. That would be very important for the RBNZ's stance over the coming quarters.

Balanced against that risk of persistent domestic inflation, imported inflation has fallen well short of the RBNZ's forecasts. We expect that will continue to be the case over the coming year. That will be important for helping to keep inflation expectations anchored in the face of lingering domestic pressures.

Near-term GDP growth forecasts revised down.

The RBNZ have revised down their forecasts for GDP growth and now expect the economy to grow by 1% in 2024 and 2.4% in 2025 – both down by 0.6% on their previous forecasts.

While a downward revision to GDP growth might ordinarily lead to a more negative output gap, on this occasion the RBNZ have revised up their assessment of the positive output gap in recent years. Given the ongoing upward surprises seen in non-tradables inflation, to better explain the inflation that has been seen the RBNZ have revised down their assessment of trend productivity and so have revised up their assessment of the positive output gap seen in recent years. As a result, despite a weaker forecast for GDP growth, the output gap is less negative over the next year than forecast in the February MPS, before turning more negative from the second half of 2025.

RBNZ takes more hawkish stance regarding impact of fiscal policy.

It is worth noting that the RBNZ's forecast for government expenditure in the projections is based on the Treasury's Half Year Economic and Fiscal Update (HYEFU) 2023. And while that has not changed since the February MPS, the RBNZ notes that due to downward revisions to potential output growth, government expenditure is higher as a proportion of potential output than projected previously. In the RBNZ's judgement, this makes the forecast decline in spending less disinflationary than was projected previously.

RBNZ policymakers also discussed the implications of the publicly announced aspects of Budget 2024. While the net impact on aggregate spending is expected to be broadly neutral over an extended horizon, the RBNZ raised the possibility that timing differences associated with reactions to changes in government spending and tax cuts might pose an upside risk to aggregate demand. That is, the RBNZ posed the possibility that reductions in government spending to date (albeit those mainly initiated by the previous government) may already be reflected in the soft high frequency indicators for GDP growth seen in recent months – which the RBNZ has taken onboard in downgrading its forecasts – whereas impending tax cuts may not yet be factored into spending decisions. This assessment seems debateable as it might also be reasonable to think that most of the new Government's spending cuts are yet to take effect, while tax cuts have been equally well foreshadowed and so may also already be underpinning spending for those households that are not cash constrained. The data will ultimately tell the tale.

We will have more to say about our view regarding the impact of fiscal policy next week in our coverage of Budget 2024.

Westpac's view: Doing the hard yards.

The overall messaging from the RBNZ today was very much consistent with that in our recently updated Economic Overview – that is, there are still "hard yards" to be done to bring annual CPI inflation down to the 2% target midpoint in a timely and sustainable manner, and thus monetary policy easing remains unlikely this year. Our baseline view remains that the first 25bp policy easing will occur in February next year, to be followed by a series of gradual (once a quarter) 25bp reductions that will eventually lower the OCR to around 3.75% in 2026.

The key surprise we took from this Statement is that it seems to take risks of an early rate cut off the table. Recent activity data has been weak (although not really much weaker than our forecasts) which has driven speculation that the RBNZ might be ready to adopt a dovish tilt. There is no sign of this here. Rather, any easing prospect has been pushed out further into the future.

We now find a large gap between our own OCR forecast of an easing in February 2025 and the RBNZ's August 2025 view even though our inflation forecasts are fairly similar this year and somewhat more pessimistic on how fast inflation will fall over 2025. There is some risk that our February 2025 OCR cut may prove too optimistic. We will make an assessment on this on review of the Q2 CPI in July and the RBNZ's updated view in the August Statement.

Upcoming key events.

Looking ahead, the following are the key domestic events and data releases that will help shape views ahead of the next two RBNZ policy reviews on 10 July and 14 August.

• Budget 2024, 30 May: The full details of Budget 2024 will be incorporated formally into the updated projections that the RBNZ will publish in the 14 August MPS. While Budget 2024 will provide details regarding spending levels and policy specifics (such as the size of the tax cuts), there will still be uncertainty about how the RBNZ will assess the economic impact (for example, the assumption the RBNZ makes about how much of any tax cut is saved).
• GDP (March quarter), 20 June: The GDP report will have an important bearing on the RBNZ's assessment of the economy's momentum and how the output gap is evolving.
• QSBO Business Survey (June quarter), 2 July: This survey contains a rich set of key capacity and inflation indicators and will be the final major data release ahead of the July review.
• CPI (June quarter), 17 July: The RBNZ will be looking for signs that inflation is on track to move back inside the target range this year and that the substantial upside surprise seen in non-tradables inflation in the March quarter has not continued.
• Labour market surveys (June quarter), 7 August: The RBNZ will looking for signs of a further easing of pressures in the labour market, including a further rise in the unemployment rate and confirmation that labour cost inflation is now on a clear downward trend.
• RBNZ Survey of Expectations (September quarter), 8 August: A further decline in inflation expectations would be welcomed as a sign that the RBNZ's policy stance remains credible.

In addition to the indicators above, monthly spending, housing, migration and business sentiment/survey indicators will continue to warrant attention. And developments in global activity, inflation and commodity prices will also be monitored very closely by the RBNZ.

Daily Pivots: (S1) 0.6649; (P) 0.6664; (R1) 0.6681; More...

AUD/USD is staying in consolidation from 0.6713 and intraday bias remains neutral. Further rally is expected as long as 0.6578 support holds. As noted before, fall from 0.6870 has probably completed with three waves down to 0.6361 already. Above 0.6713 will target 0.6870 resistance next.

In the bigger picture, price actions from 0.6169 (2022 low) are seen as a medium term corrective pattern to the down trend from 0.8006 (2021 high). Fall from 0.7156 (2023 high) is seen as the second leg, which could have completed at 0.6269 already. Rise from there is seen as the third leg which is now trying to resume through 0.6870 resistance.

New Zealand Dollar surged sharply higher following RBNZ's unexpectedly hawkish rate decision. While OCR was left unchanged, the central bank signaled the increased possibility of another rate hike this year and delayed projected timing of the first rate cut to the second half of 2025. However, Kiwi quickly gave back some of its gains after RBNZ Governor Adrian Orr tempered expectations in his press conference. Orr emphasized that the OCR track is a only central projection, not a guaranteed outcome, and expressed satisfaction that inflation expectations are declining.

Market attention now turns to the upcoming UK inflation data. Headline CPI is anticipated to drop significantly from 3.2% to 2.1% in April, while core CPI is expected to decrease from 4.2% to 3.6%. BoE has indicated that a rate cut this summer is possible, but the timing will depend on the data. Currently, markets are pricing in almost a 100% chance of a rate cut in August and a 50/50 chance in June. Any upside surprises in today's inflation figures would strengthen the case for a later rate cut.

In other currency movements, all major pairs and crosses are trading within yesterday's ranges, except for Kiwi pairs. For the week, Sterling is currently the strongest, followed by Dollar and Euro. Yen is the weakest, followed by Aussie and then Kiwi. Swiss Franc and Canadian are positioning in the middle.

Technically, GBP/CHF's breach of 1.1574 resistance suggests that larger rise from 1.0183 (2022 low) is trying to resume. Sustained trading above this will confirm this bullish case, and target 100% projection of 1.0183 to 1.1574 from 1.0634 at 1.2025 in the medium term. In case of retreat, outlook will remain bullish as long as 55 D EMA (now at 1.1361) holds.

In Asia, at the time of writing, Nikkei is down -0.72%. Hong Kong HSI is up 0.18%. China Shanghai SSE is up 0.02%. Singapore Strait Times is down -0.19%. Japan 10-year JGB yield is up 0.0084 at 0.993. Overnight, DOW rose 0.17%. S&P 500 rose 0.25%. NASDAQ rose 0.22%. 10-year yield fell -0.023 to 4.414.

RBNZ holds steady at 5.50% but signals potential hike later in 2024

RBNZ kept Official Cash Rate unchanged at 5.50%, as widely anticipated. However, RBNZ surprised markets by raising its projected rate path, suggesting the possibility of another rate hike later this year. Additionally, the timeline for rate cuts has been pushed further into the latter half of 2025. According to key forecast variables, the OCR is expected to rise from the current 5.5% to 5.7% in Q4 2024 before declining to 5.4% in Q3 2025.

Minutes of the meeting highlighted that members agreed on the "significant upside risk" posed by persistent non-tradable inflation. They noted that the influence of recent inflation outcomes on future inflation expectations is critical for price setting, wage expectations, and the stance of monetary policy. Moreover, slower output growth than currently assumed could reduce the pace at which spending can grow without increasing inflationary pressures.

"Monetary policy may need to tighten and/or remain restrictive for longer if wage and price setters do not align with weaker productivity growth rates," the minutes stated.

NZD/USD bounces after hawkish RBNZ hold, AUD/NZD dives

NZD/USD rises sharply after the hawkish RBNZ hold today. Break of 0.6139 confirms resumption of rally from 0.5873. Further rise is now expected as long as 0.6086 support holds. Next near term target is 0.6215 resistance.

Current development also affirms the view that NZD/USD's corrective fall from 0.6368 has completed with three waves down to 0.5870. Decisive break of 0.6215 should pave the way through 0.6368 to resume the rise from 0.5771 (2023 low).

AUD/NZD dives in tandem with broad based Kiwi strength. Immediate focus is now on 1.0852 cluster support (3872% retracement of 1.0567 to 1.1027 at 1.0851. Sustained break there should confirm that whole rise from 1.0567 has completed. Decline from 1.1027 is another falling leg in the medium term range pattern from 1.1085, and should target 61.8% retracement at 1.0743 and below. This will remain the favored case as long as 1.0941 resistance holds.

Japan's exports rise 8.3% yoy in Apr, imports up 8.3% yoy

In April, Japan's exports increased by 8.3% yoy to JPY 8981B, falling short of expected 11.1% growth. Nonetheless, this marks the fifth consecutive month of export growth and sets a record for April. Key contributors to this growth included hybrid cars, semiconductor-making equipment, and chips.

Imports also rose by 8.3% yoy to JPY 9443B, slightly below expected 9.0% increase, and set a record for the month. The weak Ten continues to inflate import costs for resource-scarce Japan, with crude oil prices jumping 17.7% yoy, compared to a 2.6% yoy increase in Dollar terms. This resulted in a trade balance deficit of JPY -463B.

On a seasonally adjusted basis, exports rose 0.9% mom to JPY 8843B, while imports decreased by -0.5% mom to JPY 9403B, leading to a trade balance deficit of JPY -561B.

ECB's Nagel: June cut plausible, not on autopilot afterwards

In a newspaper interview, ECB Governing Council member Joachim Nagel expressed optimism about the current economic outlook, noting that "wage growth is expected to moderate as inflation continues to recede." He highlighted that recent developments are "heading in the right direction."

Nagel suggested that a first rate reduction in three weeks is "plausible," provided that incoming data and new projections align with policymakers' expectations. However, he cautioned against rushing into additional monetary easing, emphasizing, "We should not cut rates hastily and jeopardize what we have achieved."

He also underscored the high level of uncertainty, stating, "Even if rates are lowered for the first time in June, that does not mean we will cut rates further" in subsequent meetings. Nagel stressed that ECB's approach is not automatic, saying, "We are not on auto-pilot."

BoE's Bailey signals next move as rate cut amid expected drop in inflation

BoE Governor Andrew Bailey indicated overnight that he anticipates the next move in monetary policy will be a rate cut. He expects a significant decline in April's UK inflation data, but questions remain about how long the current level of monetary policy restriction will need to be maintained.

Bailey addressed the IMF's suggestion to hold a press conference after each rate-setting meeting, rather than just four times a year. He stated, "We will roll that question that the IMF have given to us into our thinking about implementing Ben Bernanke's changes."

Fed's Waller: Several months of data needed before supporting rate cuts

Fed Governor Christopher Waller emphasized in a speech yesterday that "several more months" of favorable inflation data are necessary before he would consider supporting interest rate cuts.

While the latest CPI data was a "reassuring signal" indicating that inflation is not accelerating, Waller noted that the progress shown was "small."

Waller highlighted that current data on spending and labor market suggest that monetary policy is at an "appropriate setting" to exert downward pressure on inflation.

However, "in the absence of a significant weakening in the labor market, I need to see several more months of good inflation data before I would be comfortable supporting an easing in the stance of monetary policy," he said.

Looking ahead

UK CPI, PPI are the main focus in European session. Later in the day, US will release existing home sales and FOMC minutes.

AUD/USD Daily Report

Daily Pivots: (S1) 0.6649; (P) 0.6664; (R1) 0.6681; More...

AUD/USD is staying in consolidation from 0.6713 and intraday bias remains neutral. Further rally is expected as long as 0.6578 support holds. As noted before, fall from 0.6870 has probably completed with three waves down to 0.6361 already. Above 0.6713 will target 0.6870 resistance next.

In the bigger picture, price actions from 0.6169 (2022 low) are seen as a medium term corrective pattern to the down trend from 0.8006 (2021 high). Fall from 0.7156 (2023 high) is seen as the second leg, which could have completed at 0.6269 already. Rise from there is seen as the third leg which is now trying to resume through 0.6870 resistance.

Economic Indicators Update

NZD/USD rises sharply after the hawkish RBNZ hold today. Break of 0.6139 confirms resumption of rally from 0.5873. Further rise is now expected as long as 0.6086 support holds. Next near term target is 0.6215 resistance.

Current development also affirms the view that NZD/USD's corrective fall from 0.6368 has completed with three waves down to 0.5870. Decisive break of 0.6215 should pave the way through 0.6368 to resume the rise from 0.5771 (2023 low).

AUD/NZD dives in tandem with broad based Kiwi strength. Immediate focus is now on 1.0852 cluster support (38.2% retracement of 1.0567 to 1.1027 at 1.0851). Sustained break there should confirm that whole rise from 1.0567 has completed. Decline from 1.1027 is another falling leg in the medium term range pattern from 1.1085, and should target 61.8% retracement at 1.0743 and below. This will remain the favored case as long as 1.0941 resistance holds.

RBNZ kept Official Cash Rate unchanged at 5.50%, as widely anticipated. However, RBNZ surprised markets by raising its projected rate path, suggesting the possibility of another rate hike later this year. Additionally, the timeline for rate cuts has been pushed further into the latter half of 2025. According to key forecast variables, the OCR is expected to rise from the current 5.5% to 5.7% in Q4 2024 before declining to 5.4% in Q3 2025.

Minutes of the meeting highlighted that members agreed on the "significant upside risk" posed by persistent non-tradable inflation. They noted that the influence of recent inflation outcomes on future inflation expectations is critical for price setting, wage expectations, and the stance of monetary policy. Moreover, slower output growth than currently assumed could reduce the pace at which spending can grow without increasing inflationary pressures.

"Monetary policy may need to tighten and/or remain restrictive for longer if wage and price setters do not align with weaker productivity growth rates," the minutes stated.

Full RBNZ statement here.

Restrictive monetary policy has reduced capacity pressures in the New Zealand economy and lowered consumer price inflation. Annual consumer price inflation is expected to return to within the Committee's 1 to 3 percent target range by the end of 2024.

The welcome decline in inflation in part reflects lower inflation for goods and services imported into New Zealand.  Globally, consumer price inflation has declined from 30-year highs in many advanced economies. However, services inflation is receding slowly, and expected policy interest rate cuts continue to be delayed.

In New Zealand, pressures in the labour market have eased.  Businesses are employing more cautiously in line with weak economic activity, while the number of people available to work has increased due to recent high net inward migration. Wage growth and domestic spending are easing to levels more consistent with the Committee's inflation target.

While weaker capacity pressures and an easing labour market are reducing domestic inflation, this decline is tempered by sectors of the economy that are less sensitive to interest rates.  These near-term factors include, for example, higher dwelling rents, insurance costs, council rates, and other domestic services price inflation. A slow decline in domestic inflation poses a risk to inflation expectations.

Our economic projections include only officially available information on the Government's fiscal intentions to date, which includes the most recent fiscal update and 'mini budget'.  The signalled lower government spending is currently and expected to continue contributing to weaker aggregate demand. Any impact of potential changes in the forthcoming Budget to government spending, or private spending due to tax cuts, remain to be assessed.

Annual consumer price inflation remains above the Committee's 1 to 3 percent target band, and components of domestic services inflation persist.  The Committee agreed that monetary policy needs to remain restrictive to ensure inflation returns to target within a reasonable timeframe.

Media contact

James Weir
Senior Adviser External Stakeholders
Phone: +64 4 471 3962 | Mobile: 021 103 1622
Email: James.Weir@rbnz.govt.nz

Summary Record of Meeting – May 2024

The Monetary Policy Committee discussed recent developments in the domestic and global economies and the implications for monetary policy in New Zealand. Restrictive monetary policy is contributing to an easing in capacity pressures. Headline inflation, core inflation, and most measures of inflation expectations are continuing to decline. However, domestic inflation has fallen more slowly than expected and headline Consumers Price Index (CPI) inflation remains above the Committee's target band. Members of the Committee agreed that monetary policy needs to remain restrictive to ensure inflation returns to target within the forecast timeframe.

Aggregate global economic growth was below trend last year and is expected to slow further in 2024. However, the economic outlook varies among New Zealand's trading partners.  In the United States, monetary policy has contributed to an easing in capacity pressures and inflation, but economic growth remains stronger than in many other developed economies. In most other advanced economies, domestic demand remains weak. In China, economic activity strengthened in early 2024, although continued weakness in the property sector remains a significant downside risk to growth.

The Committee noted that headline and core inflation have continued to decline in many advanced economies. To date, the decline in headline inflation internationally has been due in large part to lower goods, energy, and food price inflation. Inflation in services has declined, but by less than anticipated at the start of the year. Nevertheless, inflation in New Zealand's trading partners is expected to continue to decline.

In discussing global financial conditions, the Committee noted that persistent inflation in some of New Zealand's key trading partners has led to fewer policy interest rate cuts being priced in by financial markets. Higher long-term wholesale interest rates globally have supported wholesale interest rates in New Zealand. Participants in global financial markets continue to exhibit confidence in the corporate earnings outlook, as reflected in equity prices and credit spreads.

The Committee discussed recent developments in financial conditions in New Zealand. Overall, credit growth remains weak. The average interest rate across the stock of mortgage borrowers continues to increase and is near its projected peak of 6.5 percent. Bank funding costs are expected to increase over the forecast period as funding sources normalise, with a reversion to higher cost wholesale and term deposit funding. Higher funding costs in turn are expected to maintain upward pressure on lending rates over the medium term.

The Committee received an update on the continued sales of New Zealand Government Bonds held in the Large Scale Asset Purchase Programme portfolio. Despite the high level of bond issuance over recent years, measures of secondary market liquidity generally remain in line with historical averages and demand for New Zealand Government Bonds in the primary market remains strong.

The Committee discussed recent domestic economic developments. A prolonged period of restrictive interest rates is reducing household spending and residential and business investment. Capacity pressures in the New Zealand economy have eased significantly over the past year and aggregate demand is now broadly in line with the supply capacity of the economy.

Members noted that labour market pressures are easing and that businesses are reporting it is much easier to find workers. Labour supply has continued to increase, due to strong population growth, and wage growth has continued to decline but remains elevated.

The Committee discussed New Zealand's current low rate of productivity growth and its implications for lower potential output growth and higher capacity pressures. The Committee noted that the revised smaller negative output gap in the published projections is more consistent with recent persistence in domestic inflation pressure.

The Committee discussed possible causes of the current low productivity rate and whether they were temporary or more persistent. For example, some labour hoarding by firms is likely to have occurred in response to the previous acute labour shortages once New Zealand's borders were reopened. This could prove to be temporary.

The Committee noted that the forecast for government expenditure in the projections is based on Treasury's Half Year Economic and Fiscal Update (HYEFU) 2023, adjusted to reflect the December 2023 quarter GDP data. Based on this information, the share of government expenditure in the economy is projected to decline.  However, due to weaker potential output growth, government expenditure is higher as a proportion of potential output than projected in the February Statement and hence less disinflationary.

The Committee also discussed the implications of the publicly announced aspects of Budget 2024 for the economic outlook. If the decline in government revenue due to tax cuts is fully offset by lower government expenditure, then the net impact on aggregate spending is broadly neutral over an extended horizon.

However, the Committee discussed how differences in the timing between potential lower government spending and lower tax rates are relevant to monetary policy. The Committee noted that the signalled lower government spending is currently and expected to continue contributing to weaker aggregate demand. However, any likely changes to government spending or private spending due to proposed tax cuts are not in the May Monetary Policy Statement projections. This timing difference poses an upside risk to the forecast of aggregate demand, the relevance of which for monetary policy will be clearer over coming quarters.

The Committee noted that the estimate of the long-run nominal neutral OCR used in the projections has been increased by 25 basis points to 2.75 percent, consistent with the Reserve Bank's indicator suite. The long-run nominal neutral rate affects the central economic projection but has a larger impact in the latter part of the forecast horizon and beyond. Members agreed that the current level of the OCR remains contractionary.

The Committee discussed recent inflation outturns. An easing in capacity pressures in the New Zealand economy and falling inflation expectations over the past 12 months are working to bring domestic inflation down. Annual CPI inflation fell to 4.0 percent in the March 2024 quarter but remains above the Committee's 1 to 3 percent target band.

Both tradable and non-tradables inflation contributed to the decline in headline CPI inflation. However, annual non-tradables inflation declined only slightly to 5.8 percent, which was higher than the 5.3 percent forecast. This upside surprise was broad-based across non-tradables inflation components.

The Committee discussed the outlook for non-tradables inflation. So far, the decline in non-tradables inflation has primarily been due to housing and construction costs, which are typically more sensitive to monetary policy. Further near-term disinflation in non-tradables is likely to be due to falling inflation for some market services, as labour market conditions continue to soften. However, this is expected to be tempered by some relative prices increases, such as for insurance, local authority rates, and dwelling rents.

Members discussed risks to the inflation outlook. The Committee agreed that risks to tradable inflation were balanced but noted that price changes may continue to be volatile. Risks remain to near-term inflation outcomes given ongoing trade disruptions. To date, developments in the Middle East have not resulted in a large increase in oil prices, and goods inflation continues to decline across advanced economies.

Members agreed that persistence in non-tradable inflation remains a significant upside risk. The influence of recent inflation outcomes on setting future inflation expectations is critical to price setting, wage expectations, and the stance of monetary policy. In addition, slower potential output growth than currently assumed would reduce the pace at which spending can grow without putting upward pressure on inflation. Monetary policy may need to tighten and/or remain restrictive for longer if wage and price setters do not align with weaker productivity growth rates.

Members discussed downside risks to the projections. In China, strengthening manufacturing capacity, alongside subdued domestic demand, could lead to a sharper decline in New Zealand import prices than currently assumed. Some members also noted the risk of a decline in global equity prices, particularly in the US.  This risk arises from elevated pricing based on expectations of a near-term easing in US monetary policy, ongoing strong earnings growth, and a low-risk premium.  Members noted that domestic labour market conditions could deteriorate more quickly than anticipated, particularly if firms reduce their labour force rapidly in response to weak demand.

In the context of persistent domestic inflation, weaker productivity growth, and uncertainty regarding the pace of normalisation in wage and price-setting behaviour, the Committee discussed the possibility of increasing the OCR at this meeting. The Committee assessed that, while the near-term balance of risks around inflation are skewed to the upside, there is more confidence that inflation will decline to within the target range over the medium term.  However, the Committee also agreed that interest rates may have to remain at a restrictive level for longer than anticipated in the February Monetary Policy Statement to ensure the inflation target is met.

The Committee discussed the reasons why inflation is outside of the target range and the expected time for inflation to return to target. The Committee noted that the high inflation experienced both domestically and internationally over recent years reflected the significant disruption to global supply, production, and potential output stemming from the pandemic; the impact on demand of the global easing in monetary policy and the rise in fiscal spending during the pandemic; an increase in commodity prices and shipping costs resulting from war and geopolitical tension; severe weather impacts on local food prices; and the persistence of domestic inflation in part reflecting low productivity.

The Committee noted that annual headline CPI inflation was expected to return to the target band in the December quarter of this year.  The Committee agreed that in the current circumstances, there is no material trade-off between meeting their inflation objectives and maintaining the stability of the financial system. The Committee noted that borrowers have faced a significant increase in interest costs, but banks are well placed to support their customers through this difficult period.  Restrictive monetary policy settings are necessary to reduce demand in the economy, while avoiding unnecessary instability in output, employment, interest rates and the exchange rate.

In discussing the appropriate stance of monetary policy, members agreed they remain confident that monetary policy is restricting demand. A further decline in capacity pressure is expected, supporting a continued decline in inflation. The Committee agreed that interest rates need to remain at a restrictive level for a sustained period to ensure annual headline CPI inflation returns to the 1 to 3 percent target range.

On Wednesday 22 May, the Committee reached a consensus to keep the Official Cash Rate at 5.50 percent.

Attendees:

MPC members: Adrian Orr (Chair), Bob Buckle, Carl Hansen, Caroline Saunders, Christian Hawkesby, Karen Silk, Paul Conway
Treasury Observer: Dominick Stephens
MPC Secretary: Elliot Jones

In April, Japan's exports increased by 8.3% yoy to JPY 8981B, falling short of expected 11.1% growth. Nonetheless, this marks the fifth consecutive month of export growth and sets a record for April. Key contributors to this growth included hybrid cars, semiconductor-making equipment, and chips.

Imports also rose by 8.3% yoy to JPY 9443B, slightly below expected 9.0% increase, and set a record for the month. The weak Ten continues to inflate import costs for resource-scarce Japan, with crude oil prices jumping 17.7% yoy, compared to a 2.6% yoy increase in Dollar terms. This resulted in a trade balance deficit of JPY -463B.

On a seasonally adjusted basis, exports rose 0.9% mom to JPY 8843B, while imports decreased by -0.5% mom to JPY 9403B, leading to a trade balance deficit of JPY -561B.

BoE Governor Andrew Bailey indicated overnight that he anticipates the next move in monetary policy will be a rate cut. He expects a significant decline in April's UK inflation data, but questions remain about how long the current level of monetary policy restriction will need to be maintained.

Bailey addressed the IMF's suggestion to hold a press conference after each rate-setting meeting, rather than just four times a year. He stated, "We will roll that question that the IMF have given to us into our thinking about implementing Ben Bernanke's changes."

In a newspaper interview, ECB Governing Council member Joachim Nagel expressed optimism about the current economic outlook, noting that "wage growth is expected to moderate as inflation continues to recede." He highlighted that recent developments are "heading in the right direction."

Nagel suggested that a first rate reduction in three weeks is "plausible," provided that incoming data and new projections align with policymakers' expectations. However, he cautioned against rushing into additional monetary easing, emphasizing, "We should not cut rates hastily and jeopardize what we have achieved."

He also underscored the high level of uncertainty, stating, "Even if rates are lowered for the first time in June, that does not mean we will cut rates further" in subsequent meetings. Nagel stressed that ECB's approach is not automatic, saying, "We are not on auto-pilot."