ASB economists have changed their call and are picking that the Reserve Bank will be forced to drop official interest rates as low as 2% by mid-2016. They also see a rate cut next month as now “a done deal”.
The change to forecast, highlighted in ASB’s Economic Weekly newsletter, means ASB has now joined Westpac among major banks whose economists see interest rates ending up much lower than others have predicted and the RBNZ itself appears to currently believe will be necessary.
Westpac economists have for some time been picking a low of 2% in the Official Cash Rate (compared with its current actual level of 2.75%), though did recently move their anticipated timing of such cuts further into 2016. The RBNZ has indirectly indicated it sees rates bottoming out at 2.5%, which was where ASB and others have been picking.
But ASB chief economist Nick Tuffley says the ASB economics team’s now expecting that the RBNZ will cut the OCR three more times: at the upcoming Monetary Policy Statement on December 10, then again in June and August 2016, bringing the OCR to a low of 2%.
“For some time we have had substantially weaker inflation forecasts than the RBNZ. The downside risks to inflation have been growing consistently. We have been warning of the growing risk that the RBNZ will have to cut further in 2016,” he said.
“It’s important to note, low inflation is a global problem. The RBNZ’s dilemma is not unique – everywhere central banks have been forced to cut rates to unprecedented levels. And to be stingy with rate cuts when inflation is still barely positive is a risky strategy. We don’t think the RBNZ will tolerate that risk and hence we now believe a 2% cash rate is now the most likely outcome.”
Tuffley said the ASB economists had a “different view of the world” to the RBNZ – and in particular forecasts of inflation.
“We expect the unemployment to rise over the next 18 months. This will keep wage inflation, and in turn, domestic inflation pressures subdued. But most importantly, we do not expect the fall in the NZD to be as inflationary as the RBNZ expects. We expect some pick up in inflation, but it will be much more limited than the RBNZ expects and it will only be transitory.”
In explaining why a rate cut in the December MPS was now a done deal, Tuffley said the RBNZ had already factored in one further cut. The ongoing strength in the NZD and the recent weakness in dairy prices were “likely to be sufficient to convince the RBNZ to watch and wait no longer”.
“Furthermore, the December MPS is a good opportunity for the RBNZ to foreshadow the risk of further cuts next year,” he said.
“We see the RBNZ as reluctant cutters, which is why we do not expect the 2016 cuts will come for another 6 months. The RBNZ will want to watch and wait, to assess the impact of this year’s rate cuts. We have a strong view that the RBNZ will likely be disappointed with what they see.
“The OCR will eventually return to neutral (which we view as currently around 3.5%) and we see that process commencing from mid-2018. This coincides with when we see the labour market tightening once again (hence lifting domestic inflation). Global developments will also be a factor, and our expectation is that lower global investment over the next few years should lead to a reduction in excess global supply.”