Brian Fallow

The Economics Editor of the NZ Herald

Signs of a Reserve Bank rate-rise pullback?

Reserve Bank chief's talk of action on high kiwi may mean rate-rise plan is eased: economists.

Reserve Bank governor Graeme Wheeler. Photo / Mark Mitchell
Reserve Bank governor Graeme Wheeler. Photo / Mark Mitchell

Some economists are interpreting talk by Governor Graeme Wheeler that the Reserve Bank may intervene in the foreign exchange market as a sign he may also raise interest rates less aggressively this year than he indicated in March.

Wheeler fired a warning shot across the bow of the foreign exchange market yesterday, pointedly reminding it of his power to intervene if the kiwi dollar continued to climb while export commodity prices were falling.

In a speech to a dairy industry conference, Wheeler said an important factor in the currency's strength had been the firming in the terms of trade to the most favourable mix of export and import prices for 40 years.

But recently they had parted company, the currency continuing to rise despite a string of falling dairy prices at Fonterra's fortnightly auctions.

Wheeler reiterated the bank's view that the exchange rate was overvalued and its current level unsustainable.

"Our exchange rate could be expected to weaken if one or more of the following occurs: the US economy continues to improve; global dairy prices continue to come off their recent highs; China's growth slows; financial market volatility begins to rise; or if there is a global 'risk-off' event such as a correction in global equity prices," he said.

"If the currency stays high in the face of worsening fundamentals, such as a continued weakening in export prices, it would become more opportune for the Reserve Bank to intervene in the currency market to sell New Zealand dollars."

Read the speech notes here:

One condition to be met before the bank exercises its rarely used mandate to intervene in the foreign exchange market is that it must be consistent with its monetary policy.

ASB chief economist Nick Tuffley said the Reserve Bank was in the midst of a tightening cycle, with a widespread expectation of another 150 to 200 basis points of official cash rate (OCR) increases yet to come.

"Any attempts at intervention will [fight] the underlying interest rate story, notwithstanding the bank's observation the interest rate cycle is fully priced in and some analysts believe there is considerable downside risk to the NZ dollar."

But BNZ head of research Stephen Toplis said that precisely because the Reserve Bank could not intervene at the same time it was raising interest rates, Wheeler's comments were "a clear indication the bank is contemplating a pause in its tightening cycle while it tries to hobble the New Zealand dollar".

For now, the BNZ was sticking with its published view that the Reserve Bank would raise the official cash rate in June and July.

"But this is highly currency dependent and, the way things are going, a near-term pause is looking increasingly likely," Toplis said.

Deutsche Bank chief economist Darren Gibbs said yesterday's labour market data show higher unemployment and more subdued wage inflation than the Reserve Bank had forecast, suggesting less urgency in raising the OCR.

The Governor's comments expressing dissatisfaction with the high level of the dollar also pointed in that direction. Gibbs still expected Wheeler to lift the the OCR again next month, but said the case for a pause in July had increased. But it would only be a pause.

"We still expect the unemployment rate to fall significantly over the course of this year ... and over time this should be translated into upward pressure on labour costs and inflation more generally. Therefore, we continue to foresee a further 50 basis points of OCR tightening this year with a further 100 points of tightening to come in 2015, unless the exchange rate outperforms our expectations."

- NZ Herald

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