Rate Hike Slowdown

In its last meeting all the way back in November, the Reserve Bank of New Zealand had raised rates by a record 0.75%. Even though officials contemplated another move of this size at today's deliberations, they decided to downshift to a 50 basis points increase ^[1]. This brought the official cash rate to 4.75%, in what was the tenth straight move since the October 2021 lift-off.

The decision was widely expected, but there had been some speculation for a smaller adjustment or even a pause, in light of floods and cyclone Gabrielle that hit parts of the country and their economic impact. The central bank judged that fiscal policy is "more effective" at addressing the economic disruption of these extreme weather events, which "do not materially alter" the medium term monetary policy.

More Tightening Ahead

Despite the smaller hike and the fact that members now appear to view policy as "contractionary", they maintained guidance that the OCR "still needs to increase" and monetary conditions need to "tighten further".

The updated Monetary Policy Statement showed that the RBNZ continues to project a terminal rate of 5.5%, to be reached towards the end of the current year and stay above 5% beyond 2024 ^[2]. This projection suggest another 75 basis points worth of hikes in the most aggressive tightening cycle since the OCR was introduced in 1999.

Recession on the Horizon

In spite of this very aggressive monetary policy stance and the protracted period of rate hikes, the economy has proved very resilient so far. Gross Domestic Product (GDP) grew by a robust 2% q/q in the third quarter, which was the biggest expansion in over a year.

However, the central bank expects economic activity to have slowed down in Q4 and projects GDP to contract by as much as 0.5% in Q2 of the current year and stay in negative territory for three consecutive quarters.

Tight Labor Market & High Inflation

The unemployment rate ticked up to 3.4% in the fourth quarter, but remains close to the historic lows (3.2%), but the Labor Cost Index printed its biggest annual rise since the LSI series started a little over thirty years ago. ^[3].

The RBNZ views the labor market as "extremely tight" and is concerned about this wage growth which puts upward pressure in overall inflation. Headline Consumer Price Index (CPI) steadied at 7.2% y/y in the fourth quarter, but this is "too high" for the central bank ^[2].

Although policymakers acknowledged signs of easing in price pressures, they forecasts CPI to inch-up again to 7.3% and its thirty-two year high in the current quarter, which will be the peak, compared to the 7.5% previously projected.

NZD/USD Reaction

The Reserve Bank of New Zealand is one of the most hawkish central banks, having started tightening before its major counterpart and months ahead of the US Fed. Inflation steadied in the last quarter and Unemployment ticked up, which allowed a downshift today, from the previous record hike.

However, the bank stayed in its aggressive path since inflation is high and expected to remain above the 2-3% target until the first half of next year, maintaining its guidance for more hikes ahead.

NZD/USD is supported by the overall hawkish tone of today's policy decision, trying to pause this month's slide, caused by the recent repricing around the Fed's terminal rate that has boosted the US Dollar.