Fed hikes 75bps but statement consistent with a dovish pivot. NZ labour market very tight, encouraging market to think of a 75bps RBNZ hike later this month

The main focus has been on the Fed’s 75bps hike this morning, with a notable dovish pivot in the FOMC statement. This supported US equities, drove US Treasury yields lower and the USD lower. As we go to print, Chair Powell conveyed a hawkish message and some of that initial move has faded.

As widely expected, the Fed raised the Fed Funds target range by 75bps to 3.75-4.0%. Of most interest to the market, the Fed included forward guidance that “in determining the pace of future increases in the target range, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments”.

This was the dovish pivot the market has been hyper ventilating on over recent weeks, with some doubting that the Fed could be so explicit in dialing down the outlook for rate hikes ahead.  It conveys a message that the Fed isn’t just looking in the rear vision mirror on (lagging) inflation indicators, but is sensitive to the future impact on the economy of the significant lift in rates that has already occurred. Vice-Chair Brainard, who has been on the more dovish side of the committee, has noted similar language in her recent speeches. The cumulative tightening to date of 375bps in less than a year is significant.

Fed Chair Powell opened his press conference by reiterating the Fed’s strong commitment to bring inflation back down to 2% and that monetary policy will stay tight “for some time”. His comments were on the hawkish side, noting that the Fed still has “some ways to go” on rates and that the ultimate rate level was higher than previously expected.

The immediate market reaction was stronger US equities, lower rates across the board and a weaker US dollar. US equities were modestly weaker heading into the statement after the stronger than expected ADP employment report (see below) and the S&P500 currently shows a modest gain. US Treasury yields were steady ahead of the release but fell post statement.  Initial moves faded, after Powell’s more hawkish commentary. The 10-year fell as low as 3.97% but is back just over 4% as we go to print.

The USD shows broadly based losses, with the NZD breaking back up through 0.59, spiking as high as 0.5940 before Powell’s hawkish comments sent it back just below 0.59. It’s a moving feast as we go to print. NZD crosses are all higher on the day but much of this pre dated the FOMC announcement, with the NZD seeing broad support following yesterday’s strong NZ labour market data (see below).

Earlier in the session, the US ADP private payrolls report showed a gain of 239k in October, driven by strong job gains in the leisure/hospitality sector. This followed the previous day’s strong JOLTS labour market report, with all indications that the US labour market remains too hot for comfort for the Fed. Friday’s key non-farm payrolls report is expected to show slowing employment growth, but still a robust 200k jobs added for the month.

As if there was any doubt that China would continue with its zero-COVID policy, last night China’s National Health Commission issued a statement calling for vigilance to prevent and control the epidemic and to firmly adhere to the zero-COVID policy.

NZ labour market data indicated a still very tight labour market, with a strong 1.3% q/q rebound in employment in Q3 following three flat quarters, but the unemployment rate remaining steady at 3.3% as labour force participation surged. Wage inflation remained hot, with the LCI measure of private sector wages excluding overtime rising a record 3.8% y/y (in data dating back thirty years), with 2% on this measure being consistent with CPI inflation being at the mid-point of the target range. The unadjusted LCI, a purer measure of wages that the general public would relate to, rose a record 5.6% y/y. If the report that First Union negotiated a 12% pay rise over two years for 18,000 Countdown staff is typical, then the economy could well face a couple of years of 6% annual wage inflation.

RBNZ Deputy Governor Hawkesby noted that the labour market data were broadly in line with the Bank’s expectations.  The data were the last key domestic indicators ahead of the RBNZ’s 23 November MPS and there will be differing opinions on whether the Bank should or shouldn’t step up with a jumbo 75bps hike at that meeting. The market increased pricing for that meeting from +70bps to +73bps following the data, which makes a 75bps hike the easier decision for the Bank, but not necessarily the right decision, given the lagged impact of 325bps of rate hikes still to impact the economy, as well as the upward pressure on bank funding costs when the RBNZ’s funding for lending programme ends in December.

The story of the domestic rates market remained one of movements being distorted by the inclusion of NZGBs into the WGBI from 1 November. Significant outperformance leading into their inclusion has morphed into significant underperformance, with the big passive inflow completed. Rates were 12-16bps higher across the curve, with the 10-year rate up 15bps to 4.43%, taking its two-day sell-off to 27bps. Over that period the 10-year swap rate is up 10bps, including a 2bps lift yesterday.  The strong labour market data didn’t have much impact on short-end swaps, with the 2-year rate up 1bp on the day to 5.14%.

On the calendar for the day ahead, the key event is the BoE’s policy update, where almost all economists are picking a 75bps hike in Bank Rate to 3.0% and this is fully priced. There will be more interest in how much higher the Bank is prepared to take rates, ahead of the pending economic recession and fiscal austerity. The key economic release is the US ISM services index, where the consensus sees some slippage to 55.3.