Weak GDP data, coupled with a dovish US Federal Reserve, has driven interest rates sharply lower.
Weak GDP data, coupled with a dovish US Federal Reserve, has driven interest rates sharply lower.
A double whammy of a more-dovish-than-expected US Federal Reserve and news of an unexpected contraction in the New Zealand economy drove local interest rates sharply lower, putting the market increasingly at odds with where the Reserve Bank of New Zealand thinks they should be.
Today’s GDP data, which showed theeconomy shrank by 0.3 per cent in the September quarter, puts the market on a collision course with the Reserve Bank, whose “hawkish” outlook sees its official cash rate rising late next year to 5.7 per cent from its current level of 5.5 per cent.
Early in the trading day, the US central bank kept its official interest rates unchanged, as was widely anticipated by the markets, but its so-called “dot plot” forecasts hinted at rate cuts next year, which drove US Treasury yields down.
The Fed, which aims to get inflation down to 2 per cent annually, had maintained its Federal funds rate in a 5.25 to 5.50 per cent range.
But its forecasts showed most officials expect US rates will end next year at 4.5-4.75 per cent, suggesting three quarter-point cuts.
Domestically, the GDP data, which followed news on Wednesday that New Zealand food prices fell by 0.2 per cent in November compared with October, drove rates lower still.
“The softer inflation yesterday, the Fed this morning, and now we have the economy going backward again, so it’s like a red flag to a bull for the market,” BNZ economist Doug Steel said.
By late afternoon, the key two-year swap rate was at 4.7725 per cent, down 29 basis points on the day, while the 10-year swap rate fell by 21 basis points to 4.3975 per cent.
The New Zealand dollar rallied by one US cent on the Fed’s announcement - mostly due to US dollar weakness - then dropped by a quarter of a US cent - before spiking higher again to US62.3c - its highest point since July.
“I don’t really think that the market expected the Fed to go as far as it did, and they cut their expectations quite considerably as well,” ASB economist Mark Smith said.
The US central bank said recent indicators suggested growth in economic activity had slowed from its strong pace in the third quarter.
Federal Reserve chairman Jerome Powell has kept official interest rates unchanged. Photo / AP
BNZ’s Steel said the market had already been struggling with the idea that local interest rates were going to go higher still, as put forward by the Reserve Bank.
“The Reserve Bank, in its last monetary policy statement, suggested that they could [go higher], so there were question marks around whether they would.
“The data is certainly leading the market to think that the bank will not lift interest rates again, and is turning its attention to when the next cut will be,” Steel said.
“The GDP data kind of confirms that we are in a recession, and although I don’t think you needed this data to confirm that.
“There are plenty of signs that the economy is struggling, and certainly on a per-capita basis, it has been going backwards at a rate of knots for four quarters in a row.
