MNI: Markets Underestimate RBNZ Easing, Ex Officials Say

Markets are underestimating how far the Reserve Bank of New Zealand may need to cut the 3.5% official cash rate, as global uncertainty weighs on an economy lacking a strong growth engine, former RBNZ officials told MNI.

Looser, expansionary monetary policy will be needed if business confidence fails to recover, with the OCR potentially falling to the lower limits of neutral at around 2.5% by year-end, said John McDermott, executive director at Motu and former RBNZ assistant governor, noting current market pricing of 2.8% remains only slightly below the mid-point of the Bank’s 2.5–3.5% neutral range. “Fiscal policy is no longer an option, and global conditions are highly uncertain,” McDermott said. “With monetary policy as the only tool left, 2.5% would be an easy move.”

McDermott said leadership changes at the Bank may have left traders unsure of the MPC’s direction. But rising global risks give Acting Governor Christian Hawkesby and the committee a clean slate to present a new strategy at the May 28 meeting, he added. 

While domestic conditions could justify a 50bp cut, global volatility will likely lead the MPC to opt for a more cautious 25bp move, McDermott said. “A bigger cut would get them to neutral faster, but they won’t want to repeat past mistakes,” he added, citing the potential for supply disruptions from U.S. tariffs that could resemble pandemic impacts. 

Michael Reddell, former RBNZ special adviser, put the odds of a 50bp cut below 50%, noting that the upcoming government budget could influence the decision. Core inflation may not be easing as quickly as hoped, he warned, pointing to sticky wage data in the recent labour market report.

Reddell expects the OCR to fall gradually to 2.25–2.5% by year-end, barring a sharp recovery. “The domestic economy remains subdued, and a prolonged U.S.-China trade war would only deepen the drag on global growth,” he said. “But there’s a lot of uncertainty.”

STAGFLATION CONCERNS

John Young, former Treasury advisor and RBNZ FX portfolio manager, warned that weak growth and persistent inflation raised the risk of stagflation, which could temper the pace of easing.

“There’s a growing risk of a stagflation-like environment – not 1970s-style, but persistent inflation above target,” he said. The change in the RBNZ’s mandate to a single focus on inflation, with its employment target scrapped after the 2023 election, may make the Bank more hawkish than otherwise, he warned.

Young also flagged data limitations. “The lack of high-frequency economic data will make real-time trend analysis difficult, adding to the Bank’s caution,” he said.

Still, Reddell downplayed stagflation risks relative to the U.S. “A stronger New Zealand dollar and weak oil prices help suppress headline inflation,” he said. “Plus, a shift in Chinese consumer goods exports away from the U.S. and toward other markets may also help ease price pressures here.”