RBNZ to End Quantitative Easing in Possible Prelude to Rate Hike

(Bloomberg) -- New Zealand’s central bank said it will reduce monetary stimulus by ceasing quantitative easing bond purchases this month, a surprise move that may be a prelude to an interest-rate increase later this year. The kiwi dollar jumped.

The Reserve Bank’s Monetary Policy Committee, led by Governor Adrian Orr, on Wednesday held the official cash rate at 0.25% but said it will halt bond buying under its Large Scale Asset Purchase program by July 23. The statement omitted a previous reference to the need for considerable time and patience to achieve its inflation and employment goals.

“Members agreed that the major downside risks of deflation and high unemployment have receded,” the RBNZ said. “The committee agreed that a ‘least regrets’ policy now implied that the significant level of monetary support in place since mid-2020 could be reduced sooner.”

The RBNZ is among the first central banks from advanced economies to begin normalizing policy in the wake of the pandemic. Signs are emerging that the New Zealand economy may be overheating, pushing inflation toward the top of the RBNZ’s target range and squeezing the labor market.

“The RBNZ has clearly changed tack,” said Nick Tuffley, chief economist at ASB Bank in Auckland. “The risk of inflation and employment undershooting their objectives has switched to the risk of overshooting should the current level of stimulus remain in place.”Tuffley now expects the RBNZ to start raising rates in August rather than November.

Investors are now fully pricing in a rate hike in November, up from an 82% chance before the statement, and there’s now a 62% probability of a move in August. New Zealand’s dollar rose to 70.16 U.S. cents at 2:30 p.m. in Wellington, from 69.64 cents beforehand.

Changed Outlook

Five of 17 economists surveyed by Bloomberg last week forecast a rate increase in November, but the majority didn’t expect a hike until the second quarter of 2022. In May, the RBNZ projected it would start raising rates in the second half of 2022.

The RBNZ said today that while LSAP purchases “were no longer necessary for monetary policy purposes” the program “remains an important tool for supporting the efficient functioning of the New Zealand debt market if required, and remains an important monetary policy tool if needed.”

The RBNZ’s willingness to remove stimulus earlier comes despite global uncertainty as more infectious variants of Covid-19 spread, and the prospect that the New Zealand currency will be pushed higher as it gets ahead of its peers.

While some other central banks are also signaling an end to ultra-loose policies by tapering bond purchases, in Asia only the Bank of Korea has said that rate normalization is in the pipeline this year. By contrast, the Reserve Bank of Australia last week said it doesn’t expect to increase borrowing costs until 2024.

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The RBNZ said economic conditions since late 2020 have been persistently stronger than anticipated, and that capacity pressures were now evident that may feed into more inflation.

“More persistent consumer price inflation pressure is expected to build over time due to rising domestic capacity pressures and growing labor shortages,” the committee said in its Record of Meeting. Still, “uncertainties remain as to the pace and magnitude of any pass-through of costs onto medium term inflation, especially given reported underutilization of labor, modest wage growth, and well-anchored inflation expectations,” it said.

New Zealand’s economy is growing faster than expected and the housing market is booming. Gross domestic product climbed 1.6% in the first three months of the year, more than three times economists’ projections. A business opinion survey last week signaled that growth will be sustained and be accompanied by increased inflation pressure and more demand for workers.

A report Friday is expected to show annual inflation lifted to 2.7% in the year ended June, nearing the top of the RBNZ’s 1-3% target range. The jobless rate fell to 4.7% in the first quarter and economists expect it to drop toward 4% in 2022.

Considerable risks to the economic outlook remain. The border is expected to stay largely closed to the outside world until 2022, and a slow vaccination roll-out has left the nation vulnerable should Covid-19 breach its defenses.

©2021 Bloomberg L.P.