There were no major surprises in today's RBNZ OCR Review - the OCR remained on hold at 2.75%, the RBNZ reiterated that "some further reduction in the OCR seems likely", and the easing bias was more tentative than the previous communique in September - all very much as anticipated. However, the Review did contain intriguing turns of phrase that added nuance to the outlook and created a little more uncertainty about the December OCR decision.
The lower exchange rate was the cornerstone of the RBNZ's argument that inflation would quickly rebound to two percent - clearly, that view has been eroded. Furthermore, this comment was genuinely new. There was no significant mention of the exchange rate in the Governor's speech on monetary policy a couple of weeks ago.
"Our views on developments between now and December are that dairy prices will stay high and so will the exchange rate. We expect the Auckland housing market to have showed signs of slowing, while markets in other parts of NZ continue to pick up. And we expect the Federal Reserve to hike rates in December, although that decision will be made a week after the RBNZ's December decision. If we are right about the way conditions are going to develop, the RBNZ would most likely cut the OCR in December, because of the high exchange rate", states Westpac.
But there is much water to flow under the bridge between now and December. So we must repeat our caution from last week - a December cut is no done deal. The RBNZ is probably undecided at present, and the final decision will depend on the data.
Financial markets reacted by sending swap rates four basis points higher, moving to price only a 40% chance of a cut in December, and sending the exchange rate higher by about a third of a cent against the USD. To some extent, interest rates and the exchange rate had to rise simply because the RBNZ didn't cut on the day (markets had factored in some residual risk of a cut). But it is assumed that the market reaction was a bit overblown - the odds of a December cut would be put at above 50%, added Westpac.
