Do delta strain risks rule out a RBNZ interest rate hike?

Roger J Kerr says the rapid spread of the delta strain has suddenly overshadowed any expectations that the RBNZ will act to tighten monetary policy and increase the OCR at their upcoming meeting on 18 August

26th Jul 21, 8:53am by Roger J Kerr

Summary of key points: -

Delta strain risks save the RBNZ from having to make a tricky monetary policy decision
Upcoming US GDP growth and jobs data will keep the US dollar on its stronger path
How much longer will the Kiwi dollar continue to rebound upwards from 0.6900?

Delta strain risks save the RBNZ from having to make a tricky monetary policy decision

Foreign exchange markets never bought into the strong view promulgated by the local bank economists over recent weeks that the RBNZ had to tighten monetary policy immediately and hike the OCR interest rate. In times gone by a sudden shift upwards in the forward pricing for New Zealand’s short-term interest rates would have sent the Kiwi dollar up one or two cents.

The panic reaction by the local interest rate markets to higher than expected inflation over the June quarter and the RBNZ not offering any kind of rebuttal to that interest rate market pricing in their last review statement, was not enough to convince the currency markets that the RBNZ would indeed tighten monetary policy at this time.

Therefore, no Kiwi dollar gains, despite all the hype and heroic statements from some quarters that New Zealand would be the first central bank in the world to raise interest rates after the Covid-related extraordinary monetary stimulus period.

Instead we witnessed a NZ dollar sell-off to an eight-month low of 0.6881 on 21 July as the US dollar continued on its appreciating path against the major currencies.

The weaker equity markets causing an investor “risk-off” mode also contributed to the NZD and AUD selling. Perversely, the growing reach of the Covid delta variant across the globe over this last week has seen equity markets spiral higher again as they expect the easy money policies to remain in place for longer. The NZD/USD has yet again rebounded back upwards to close at 0.6975 on Friday 23 July.

The rapid spread of the delta strain has suddenly overshadowed any expectations that the RBNZ will act to tighten monetary policy and increase the OCR at their upcoming meeting on 18 August.

There has been a sharp lesson in risk management for the protagonists for immediate interest rate hikes.

The reality is that we are still in the middle of a pandemic and both New Zealand and Australia have been complacent and slow to vaccinate.

Australia’s vulnerability has been exposed and community outbreaks of the delta variant could as easily occur in Auckland as they have in Sydney, Melbourne and Adelaide.

At this point, it would certainly be a stand-alone negative for the Kiwi dollar if the RBNZ did not increase the OCR on 18 August.

However, watch out for the interest rate markets to reduce their pricing expectations over the next three weeks and therefore by the time we get to 18 August it will not be such a surprise that the RBNZ leave the OCR unchanged.

Already, the suspension of the trans-Tasman travel bubble for two months has slowed up South Island tourist operators with Aussies prevented from snow skiing visits. There might be some relief within the RBNZ that the re-mergence of Covid related risks has saved them from having to make a tricky and perhaps unpopular decision to increase interest rates on August 18th.

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What will be interesting to observe from the upcoming RBNZ’s Monetary Policy Statement is their analysis on how temporary (or not) the current supply-side driven increases in the inflation rate will be. Previously they have highlighted the fact that they will “look through” such temporary price increases and not adjust monetary policy settings. However, New Zealand’s shipping and freight problems that have caused massive increases in costs for both importers and exporters is not about to resolve itself within a few short months.

The Reserve Bank of Australia remains adamant that it is not increasing their interest rates until they see wages rising. There is no evidence yet from our official statistics on labour costs that wages are rapidly rising across the board here. However, there is plenty of anecdotal evidence of local manufacturers and processors having to increase wages to between 5% and 10% to attract/retain workers. At some point the RBNZ will need to recognise the more permanent impact on the inflation rate from higher wages stemming from labour shortages due to the closed borders.

The inevitable conclusion from the above analysis is that the FX market environment we have seen over the last 12 months will continue. i.e. future NZD/USD exchange rate movements will continue to be dominated by the US dollar side with local NZ economic and monetary policy factors not really influencing at all.

Upcoming US GDP growth and jobs data will keep the US dollar on its stronger path

Global FX and financial/investment markets will be firmly focussed on two critical instalments of US economic data being released over the next two weeks: -

GDP growth numbers for the June quarter are announced on Friday 30th July. Consensus forecasts are for an annualised 8.60% expansion over the quarter. An actual outcome above 9.00% would not be a surprise and if that eventuated it would propel the US dollar value towards $1.1700 against the Euro.
Non-Farm Payrolls employment data on Friday 6th August should confirm another strong increase over 700,000 new jobs.

Stronger than forecast outcomes will be further evidence to the US Federal Reserve that they will need to take the next step towards signalling a progressive unwinding of their monetary stimulus. Fed Chairman, Jerome Powell may well hint at his next move in his presentation to the Jackson Hole central bankers annual jamboree (symposium) on 26-28 August.

How much longer will the Kiwi dollar continue to rebound upwards from 0.6900?

The trading pattern of the NZD/USD exchange rate over the last month moving between 0.6900 and 0.7050 is starting to resemble the 0.7150 to 0.7300 range that held firm in April and May. It is still anticipated that further USD strength to $1/1700/$1.1600 against the Euro will push the Kiwi dollar below 0.6900 over coming weeks/months.

Daily exchange rates

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Source: RBNZ

Source: CoinDesk

*Roger J Kerr is Executive Chairman of Barrington Treasury Services NZ Limited. He has written commentaries on the NZ dollar since 1981.

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55 Comments

by alittle | 26th Jul 21, 9:16am 1627247767

Delta or No delta, Mr Orr and his team will find enough reason to not raise OCR.

Do not believe than Wait and Watch as Mr Orr's policy says.

by Brutus Iscariot | 26th Jul 21, 9:26am 1627248382

Weird article. Our economy has clearly marched to its own beat over the last 18 months, regardless of how much Covid has been ravaging other nations.

Why would they single out Delta happening overseas now as being worthy of special attention? I would also note that in spite of the media hype, it's having negligible public health implications as the death and hospitalisation rate has barely budged despite a massive increase in cases. The RBNZ will pay what's in front of them.

by Lanthanide | 26th Jul 21, 9:42am 1627249345

I think you entirely missed the point of the article.

If there were to be evidence of delta community spread in NZ, whatever city it occurs it will likely be going into a level 4 lockdown within 48 hours, because we won't make the same mistake that Sydney has.

That could come ahead of the next interest rate review. Or it could happen 2 days, or 2 weeks, after. Such an event, especially in Auckland or Wellington, would knock tens or hundreds of millions of GDP out of the economy.

The argument therefore is that the RBNZ can't choose to move interest rates because of that existential threat. It would also be nuts for them to raise interest rates by 0.25%, then have an emergency meeting within 2-3 weeks to reverse that decision, if a level 4 lockdown were to occur.

You have to balance all the above against the idea that we should just increase interest rates regardless, and perhaps you come down on the side of "just do it regardless". But in all the chatter from the bank economists, none of them seemed to raise this point of a potential snap level 4 lockdown in their forecasts, they all acted as if the pandemic is over. It isn't.

by richard1965 | 26th Jul 21, 9:54am 1627250060

So the point you are making is that if we get Delta virus and are in lockdown than the OCR may have to be untouched but what if not.

Than RBNZ can play on the fear that may have, as how could anyone oppose fear.....this fear will remain for years to come even if do not have community spread - fear will always remain and it is this fear that likes of Orr play upon.

by Lanthanide | 26th Jul 21, 10:04am 1627250675

No, it won't remain for years, because by the end of the year, the majority of the population will be vaccinated (or had the opportunity to be), and the borders will likely open more fully next year in some fashion, which is a tacit expectation that COVID will spread through the community next year, to some extent.

by Brock Landers | 26th Jul 21, 10:08am 1627250882

The borders won't be opening up for a very long time, vaccination or not.

by Carlos67 | 26th Jul 21, 10:31am 1627252307

For once we can agree on something Brock, we are going to be in isolation for years, the pandemic is still getting worse not better. Its only a matter of time before Covid plays its trump card via another mutation.

by fat pat | 26th Jul 21, 6:31pm 1627281108

Lake Garda, Italy July 2021 https://youtu.be/rkJcI8JcdHQ

Wow it looks like utter hell there! Thank goodness our borders are closed.

by Lanthanide | 26th Jul 21, 11:05am 1627254344

I expect the borders will open next year to vaccinated individuals from a set list of countries considered to be low risk. NZers leaving the country and expecting to return may be required to be vaccinated before leaving. There may be requirements about the particular vaccination received, eg the latest booster from Pfizer, or Sinovac / Sputnik vaccines explicitly ruled out.

Depends if that's your definition of "open borders" or not. It meets my definition.

by Brock Landers | 26th Jul 21, 11:37am 1627256244

That's optimistic. It would require them to abandon their elimination strategy.

The terrified boomers of New Zealand wont allow it.

by Lanthanide | 26th Jul 21, 12:49pm 1627260577

Both Hipkins and Ardern have made statements in recent weeks about the borders being opened next year. Ardern has previously used a new metaphor for vaccinations, giving everyone a 'suit of armor' they can wear to protect against COVID - similar to her well-received and well-understood "household bubble" metaphor. It's clear that NZ is not going to remain a hermit state with the current travel restrictions, the only question is when and how we start opening the borders up.

They have an expert advisory group working out the details of how that will be achieved right now. It will likely report back sometime in September - October, and we'll have clarity over what will happen next. The group will likely propose at least 3 tracks, one where COVID recedes worldwide, one where it is in steady state similar to now, and another where there are waves of mutations and variants.

What I've suggested isn't optimistic at all, it's very likely for the receding or steady state cases. Exactly what happens in the case where COVID gets worse remains to be seen.

Plans are useless, but planning is essential. Right now the government is planning.

by Brock Landers | 26th Jul 21, 1:49pm 1627264155

You still believe things that come out of Ardern's mouth? Cute.

It's best to evaluate her actions instead of her words. Covid WILL be circulating widespread within New Zealand as soon as MiQ is removed even with most of the population vaccinated. Do you see any evidence of the health system being prepared for that eventuality? Nope.

That should tell you all you need to know about any hope of abandonment of the "elimination" strategy. The hermit kingdom is here for the long haul.

You're dreaming if you think you're going overseas 2022 without playing the bull**** MiQ lottery.

by Brutus Iscariot | 26th Jul 21, 12:46pm 1627260373

Sputnik is generally well regarded as an efficacious vaccine.

by Lanthanide | 26th Jul 21, 12:47pm 1627260451

It was just an example I made up off the top of my head of what the restrictions might look like. I think it's highly likely that some vaccines will be regarded with suspicion / not qualify the recipient to avoid a 14 day stay in MIQ.

by npc | 26th Jul 21, 1:04pm 1627261451

The vaccine doesn't prevent infection or spread of Covid. Further, those with underlying conditions are still somewhat prone to hospitalization once vaccinated. As vaccines go, this "vaccine" isn't that great. It's not going to push Covid into extinction the way successful vaccines in the past have.

We either stay shut or accept Covid spreading in the community. Letting it spread would take a serious toll on our elderly, Maori and Pacific populations which would be deeply politically unpopular. Unless a more effective vaccine is found (or perhaps wide adoption of alternative but effective treatments, like ivermectin), I'm betting on the doors staying firmly shut.

by company of heroes | 26th Jul 21, 9:58am 1627250332

I remember ANZ chief economist Sharon Zollner mentioned before that RBNZ shouldn't look into the covid outbreak risk when they make their monetary policy. I agree with her. What might happen in future shouldn't be in their mandate. They should purely stick with how economy performs when they make policy and the current economic data shows we have an overheated economy. Even if there is an outbreak happened, the inflation wouldn't go away, it could just quickly turn into a stagflation which is worse.

by HouseMouse | 26th Jul 21, 5:02pm 1627275750

Exactly, I said at the time that the morons (ie. Economists) were all overreacting prematurely, and I made the point that it reeked of complacency re potential covid outbreaks amongst other things.

by brisket | 26th Jul 21, 9:34am 1627248871

How much longer are seemingly serious people going to speculate about interest rate rises?
It is not going to happen.
We're in a rolling economic crisis, and if isn't Delta it'll be something else. Rates *cannot* go up, and talk is all they have. Maybe it'll take a few more months for the media to realise, en masse, just how powerless the central banks are.

by Independent_Observer | 26th Jul 21, 9:45am 1627249532

So your view is that central banks prefer death by hyperinflation, over death via credit crisis?

by brisket | 26th Jul 21, 9:55am 1627250122

Yes. And there's a chance that if they sit on their hands the inflation *will* abate (after wiping out a chunk of purchasing power).
Whereas if they raise rates, there will *definitely* be an absolute tsunami of corporate collapses, a sharemarket wipeout, wailing and gnashing of teeth.
Remember their mandate is 'stability'. Decades of stagflation is stability of a sort -- they'll choose that over an abrupt crisis. It's stupid, but that's how institutions work.

by alittle | 26th Jul 21, 9:59am 1627250375

I too agree that low interest is the future and hyper inflatiin will screw and will give more opportunity to pokitician to do charity to get vote.

Need strong leader, who think long term as whenever OCR is raised market is bound to throw tantrums ....I mean WHENEVER.....so Orr has to look beyond and make some hard decession but does he has the ball, not when he is about to retire.

by Squishy | 26th Jul 21, 10:30am 1627252242

I three agree, RBNZ already told us they expect and will tolerate an inflation overshoot this year. They might pay lip service to keeping an eye on rates but the "path of least regrets" seems to mean keeping rates lower.

by lowercase capitalist | 26th Jul 21, 10:55am 1627253710

Is there a source for them tolerating an overshoot? I hadn't heard that.

by Independent_Observer | 26th Jul 21, 10:25am 1627251946

"corporate collapses, a sharemarket wipeout, wailing and gnashing of teeth"

Could be the best thing that could happen - clear out a bunch of zombie companies/dead wood etc - then we can get interest rates back to where they need to be for real stability not this make believe, 'everything is fine but its not fine' false paradigm we seem to find ourselves in. I mean, how many years can we kick the can down the road for? Forever...no.

by brisket | 26th Jul 21, 10:59am 1627253945

I agree. Central banks have removed all fear of default, pumping the price of all assets to the ridiculous levels we see. As things stand, we are reproducing the Japanese experience very closely.
Unfortunately, the can *can* be kicked down the road for a long time. We could have a situation where the RBNZ is buying all the government bonds all the time. Worked for Japan -- in the sense they've avoided economic collapse. What makes us different? The political incentives to allow that are the same.

by JustAnOpinion | 26th Jul 21, 3:05pm 1627268735

Absolutely this. What this looks like can be understood by looking at Japan, prices consistently very high, productivity increasing incrementally.

by chebbo | 26th Jul 21, 10:25am 1627251948

> It is not going to happen.

Sound like speculation to me.

by Independent_Observer | 26th Jul 21, 10:28am 1627252123

People seem to confuse 'its not going to happen' with 'I personally don't want it to happen'

by Flying high | 27th Jul 21, 3:24am 1627313078

Wow, you have changed your perspective IO, are you missing Yvil that much?

by Flying high | 27th Jul 21, 3:24am 1627313078

Wow, you have changed your perspective IO, are you missing Yvil that much?

by brisket | 26th Jul 21, 11:01am 1627254112

It *is* speculation, there's every chance I'm wrong.
But if I had to bet on it with my own money, I'd place my wager on RBNZ rates being lower a year from now, not higher.
And I'm surprised at how long central bankers have got away with manipulating sentiment via 'hawkish comments' instead of actual policy or rate changes. I think a decent chunk of the market have learned that these are empty threats, I'm sure everyone else will catch on soon enough.

by HouseMouse | 26th Jul 21, 5:05pm 1627275931

100% agree.
And I would wager that the OCR will be lower in 3 years than now.
Just wait for an overdue financial crisis to occur.

by brisket | 27th Jul 21, 9:39am 1627335584

Yes.
The response to every crisis is that rates have to be lowered.
Even if the crisis is caused by low interest rates.
Ergo, a rolling, never-ending crisis.

by richard1965 | 26th Jul 21, 9:48am 1627249702

Anyway Mr Orr will only be too happy to oblige to not raise interest rate, need no reasoning or convincing though have enough excuse to pick from.

As it is, would have left untouched.

by elmoboy12 | 26th Jul 21, 9:57am 1627250248

Thanks to Roger Kerr for another excellent article. Spot on. Wish he were chair of the RBNZ. We would get some sensible decisions.

by Bugger | 26th Jul 21, 10:03am 1627250635

The OCR needs to go up, if property owners can’t handle it, then they can sell. A lose to one, is an opportunity for another. Let the market drop to sustainable, affordable levels. That’s the way it should be. It can’t stay in la-la land forever.

by fortunr | 26th Jul 21, 10:26am 1627251984

Exactly right.
Specuvestors and vested interests will always whine about any OCR raises, and find any possible excuse under the sky for claiming that rates must not be raised. Which is very shortsighted, as they do not want to understand that not raising rates now will force the RBNZ to raise them at a much higher level later on, if inflation gets entrenched in the economy. Orr must go hard and go early in raising rates, otherwise he will be forced by economic reality to make very tough choices.
Good on the commercial banks for raising both deposits and mortgage rates - hopefully the trend will continue until things are normalized.

by Independent_Observer | 26th Jul 21, 10:26am 1627251990

Classic short term, 'me', 'maximise profits' thinking.

by JLM | 26th Jul 21, 12:00pm 1627257644

You do realize the RBNZ printed similar amounts of money in the 1940's and had little to no inflation for nearly two decades, right?

What you are saying has little evidence attached to it. You are just spiteful about property rising. Classic tall poppy syndrome, nothing more, nothing less.

by lowercase capitalist | 26th Jul 21, 12:09pm 1627258153

Can you think of anything happening in the 40s that might make a comparison with current times a bit meaningless?

by JLM | 26th Jul 21, 5:43pm 1627278234

Money's money. Wartime shortages included. They started printing in 1938 and stopped in 1943. No inflation. I can guarantee you didn't even know about that, let alone have the numbers (they aren't publicly available)

If anything inflation should have been higher back then given the sheer distruption. Interest rates were around these levels too.

Shock horror I know, it's almost as if the RBNZ is doing the exact right thing they should. Good thing they're independent.

by Independent_Observer | 26th Jul 21, 1:42pm 1627263752

Face palm :-p

If you're a property owner and you feel that you're getting bullied by those who don't own property, I'm not going to feel sorry for you if you're trying to play the victim card. Nice try.

by JLM | 26th Jul 21, 5:45pm 1627278330

It's not a face palm. It's a valid comparison (and the only comparable data point for NZ QE).

It's just a terrible strawman argument from someone who knows sweet all about monetary policy, let alone NZ's history of it.

by Independent_Observer | 26th Jul 21, 10:49pm 1627296579

There appears to be a high correlation between property investors and the direction they want interest rates to go (and it’s only down…). Hardly a strawman argument. Their primary motivation is not price stability across the whole economy for the good of all, but instead primarily only personal financial gain. Which is what I replied to on the comment above.

But what do I know..I’m clearly not an expert on this topic in comparison to a PhD holder like yourself ;p

by JLM | 27th Jul 21, 12:33pm 1627346029

Same is true for savers and their preferred choice of interest rates. It’s called “talking your book” in markets.

We are sitting at around the average interest rate for NZ over the country’s history. 1980’s was the anomaly with respect to inflation and interest rates, and is primarily driven by demography, which is unsupportive of a higher interest rate environment.

by dago | 26th Jul 21, 12:44pm 1627260279

Where exactly are these people who are going to sell, going to live? Would you like to see them on the streets? I doubt any rate of sell-off would suffice for the shortage of properties out there given that the inventory continues on a downwards trajectory in many places.

I know in Wellington city/suburbs there were over 430 available between Feb/March and now its down to only 325.

by HouseMouse | 26th Jul 21, 5:06pm 1627276009

What 'should' happen is a very different beast to what 'will' happen.

by HouseMouse | 26th Jul 21, 5:06pm 1627276011

What 'should' happen is a very different beast to what 'will' happen.

by Hulk Hogan | 26th Jul 21, 10:10am 1627251010

So if the reserve bank doesn't increase rates next month do our greedy banks reduce their lending rates again? What ASB have shown in their aggressive move to raise rates on a whim of an excuse is that their books are full, and now they want to extract every penny they can from their customer base. And the bunch follows, licking their greedy money-hungry lips.
And at times like these where bank greed is on full display you have to wander what the point of 'Kiwi'bank is if they practice the same or worse behaviors as the Australian bunch??

by Chris-M | 26th Jul 21, 10:52am 1627253543

That is a clumsy way of chasing all our young people out of the country. Wouldn't it be easier and possibly cheaper to just pay their transport cost and subsidize house purchases overseas for them.

by Dave Moderato | 26th Jul 21, 11:34am 1627256052

Finally a voice of reason. Let's be frank here. NZ's OCR is not determined by the domestic housing market. It's mainly a global thing. It's patent nonsense to believe little NZ is leading the world in some economic recovery and economic policy. The world doesn't work that way.

by Notgreedykiwi | 26th Jul 21, 12:02pm 1627257742

Who paid the author for this article would be good to know. Then only I can make an informed decesion to comment. It's it possible in the future articles to know who is paying the authors, so we know what kind of influence is the author trying to put out to public through this medium. Cheers

by GregF | 26th Jul 21, 12:53pm 1627260817

I think you may find he just donates these articles and/or receives a token payment from interest.co.nz as a contributor.

Have a quick check of:
https://www.interest.co.nz/users/roger-j-kerr
and then:
https://barringtontreasury.com/

by Nifty1 | 26th Jul 21, 3:40pm 1627270807

Classic, yeah it will be the same old bull crap from RBNZ. Let's get some more 2 million dollar suburbs...

by CWBW | 26th Jul 21, 6:49pm 1627282169

That is why 1 quarter's inflation figure cannot be used to determine the deployment of a blunt macroeconomic tool like OCR. The time frame is too short, the lag in responsiveness will catch RBNZ back-footed if the economy gets hit soon after an upward revision.

An 18 month observation seem more reasonable a time-frame to determine if any adjustments are required.