New Zealand Dollar Gives Up Gains Following Fall in Inflation Expectations

The New Zealand Dollar gave back some of its recent gains following the release of a survey showing a decline in inflation expectations, which lowered the odds of another Reserve Bank of New Zealand interest rate cut.

The Reserve Bank of New Zealand's (RBNZ) survey of medium-term inflation expectations decreased from 2.8%/yr in Q4 2023 to 2.5%/yr in Q1 2024.

"The two-year inflation expectation has fallen appreciably since its peak of 3.6%/yr in Q4 2022. The RBNZ takes this survey very seriously," says Joseph Capurso, a foreign exchange strategist at Commonwealth Bank.

Image: RBNZ.

Money market pricing (OIS) shows investors reduced expectations for a 25 basis point rate hike on February 28 from 37% to 26%.

The New Zealand Dollar lost value across the G10 strip, with the Pound to New Zealand exchange rate rising by a third of a per cent to 2.0663; the Euro to New Zealand Dollar was higher by a similar margin at 1.7630.

The New Zealand Dollar to U.S. Dollar exchange rate was lower by 0.38% at 0.6108.

Market expectations for another interest rate hike from the RBNZ rose sharply following a strong employment report for the final quarter of 2023, with RBNZ Governor Adrian Orr telling parliament on Monday that inflation was still too high.

However, the RBNZ has used the inflation expectations survey to justify changes to its policy interest rate in the past, and the market senses a stronger outturn was required of today's release to push the rate hike narrative.

"Inflation expectations are now only modestly above the mid‑point of the RBNZ's 1%‑3% inflation target. We expect the RBNZ to be happy expectations are converging to the mid‑point," says Capurso.

Economists at ANZ caused a stir last week when they shifted their official call on the RBNZ to expect another interest rate hike following the most recent labour market report.

However, economists at Auckland Savings Bank expect the RBNZ to leave its policy interest rate unchanged until August.

What is certain is that the RBNZ won't be cutting interest rates for some time, and RBNZ Governor Orr will give a speech on Thursday that will likely reaffirm the message that policy needs to be restrictive to ensure inflation settles at the target.

"As such, market expectations of further rate hikes will likely remain alive and a tailwind for NZD in the next few days," says Capurso.