FX Daily: RBNZ the one leading central bank not afraid to tighten

12th June 2014

  • The RBNZ raised their official cash rate by 25 basis points to 3.25%.
  • The Bank of Korea left key interest rates unchanged at 2.5% as widely expected.
  • China Construction Bank is set to gain clearing bank status for renminbi in the UK, giving London a boost in the battle to become the leading centre for offshore China forex trade. (The FT)
  • UK Cameron’s relationship with Germany’s Merkel could come under renewed stress Thursday, as Cameron’s Conservative Party look to form a Euro parliament alliance with Germany’s anti-euro AfD party. (The FT)
  • The property market is Japan is now getting foreign attention from overseas investors, particularly Sovereign Wealth Funds. In a reflection of the surge in prices in the UK, the attention is largely focussed on Tokyo. (The FT)
  • The PBoC’s latest selective deposit reserve requirement cut means a system-wide cut and interest rate cut are unlikely in the near term, with selective easing the “new normal” of monetary policy. (China Securities Journal)
  • Greater exchange rate flexibility would help deter speculative inflows as China opens up its capital account, said Ma Jun, chief economist with the PBoC’s research bureau. Ma also said tools such as the Tobin tax and zero-interest deposit reserves can also be used to limit short-term capital flows. (Financial News)
  • Chinese Premier Li said his government has already met 60% of this year’s jobs target and that growth has stabilised, in comments which appear to cast further doubt on the chances of more aggressive stimulus to support the economy. (MNI)
  • The US Senate will vote Thursday on President Obama’s three nominations to the Federal Reserve Board. In a series of three votes Tuesday, the Senate voted to end debate on the nomination of Jerome Powell and Lael Brainard to be governors on the Fed and Fisher to be vice chairman.
  • Japan Machine Orders fell -9.1% on the month in April, surpassing expectations for a -10.8% fall and following a 19.1% gain in March.
  • Australia Employment declined by 4.8K in May, disappointing expectations for a 10.0K increase. April jobs gain was revised lower to 10.3K from 14.2K. The unemployment rate remained unchanged at 5.8%.
  • France annual CPI was unchanged at 0.8% in May, as expected.

The RBNZ showed that they are one leading central bank that is not afraid to tighten policy to head off financial instability. The RBNZ raised the OCR rate by 25 basis points for their third consecutive meeting since March and signalled that they may accelerate rate increases based on rising inflation pressures. A high exchange rate has had the effect of dampening inflation pressures through low tradable inflation but above trend growth, net immigration and robust domestic demand are adding to domestic cost pressures. Governor Wheeler threw in the line as always that the high exchange rate is not sustainable at these levels and he must believe it if he is prepared to accelerate the tightening cycle and face off the capital inflows into the New Zealand dollar.

The market was completely caught off guard by this change in policy track, as the broad consensus was that the RBNZ would reduce their projection path for rate increases by a significant 50basis points. The data flow since the last RBNZ meeting had been mixed with soft inflation, lower wage costs and weaker global dairy prices. However the RBNZ has chosen to look through these temporary factors at the long term trends of stronger migration, a bounding construction sector and robust domestic demand. The New Zealand dollar rose a full basis point on the news and continued to mark gains against the dollar in the meeting aftermath. The kiwi is now back to a one month high at $0.8666 and we hope the RBNZ knows what it is doing because in this new world of slow gradual rate rises any central bank that is prepared to front run market financial instability may get burner with a much stronger currency. Wheeler is putting his faith in the fact that the market will react to weaker commodity prices for New Zealand goods with a weaker kiwi however in this last to the finish line central bank race, markets are primarily focused on rate divergence and all else fades into the background.

Sterling-dollar reclaimed ground yesterday after being dragged lower in recent sessions by its correlation to euro-dollar. The rate began the day below $1.6760, with a strong labour market report providing the trigger to take the rate to an eventual high of $1.6809 before it faded into the close. Labour market statistics provided evidence of a gaining UK recovery as the unemployment rate fell to a 5 year low of 6.6%. 345,000 jobs were created in three months to April, with the activity rate, the UK’s version of labour participation, increasing notably. The rise in labour market participation came from the oldest and youngest sections of society showing that older workers are working longer and more young people are joining the labour force. While self-employed still accounted for 21% of jobs created in the period, this is a significant decrease from over half of all jobs created in the year to March. The decline in annual wage growth tempered the report somewhat but this was primarily the result of base effects. Workers delayed income until April of last year to avail of the lower top rate of tax from 50% to 45%. This had the effect of flattering income growth last April and undercutting it this year. At face value the UK is booming and should reclaim pre-crisis GDP levels this quarter. We view the recent weakness in sterling as temporary consolidation and profit taking of some of the substantial sterling long positions. We expect sterling to break above the $1.70 level within the next three months on stronger growth rates and an increasingly hawkish BoE. Just no one mention export growth, productivity or household debt.