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Market casts doubt on OCR going negative in 2021

Futures market pricing has cast doubt on the view that the Reserve Bank’s official cash rate will go negative next year.

Some economists have also rowed back on their forecasts for negative rates while others have stuck to their guns.

As expected, the Reserve Bank left its official cash rate unchanged at 0.25 per cent in today’s monetary policy statement.

The bank remained on-message about keeping the rate at that level until March 2021 and said it would roll out its much anticipated funding for lending (FLP) programme, estimated to be worth $20 billion, next month.

A negative OCR could be employed by the bank to keep broader interest rates very low to allow the economy to recover from the blow posed by the Covid-19 pandemic.

ANZ economists said they had “tweaked” their OCR call, with the RBNZ now expected to take longer to get the OCR to minus 0.25 per cent.

“The odds we’ll see a negative OCR have fallen – on balance we still see it as more likely than not, but it’s no longer a high-conviction call.”

According to the Reserve Bank’s modelling process, the economy currently needs an effective cash rate of minus 150 basis points.

Back in August the requirement was minus 240 basis points.

“In other words, the bank thinks conditions have improved sufficiently to require 90 basis points less stimulus than was previously assumed,” BNZ said.

ASB said it now expects the OCR will now remain on hold at 0.25 per cent “although the balance of risks will remain skewed towards the need for further support”.

“Our assessment of how the economy is tracking suggests the FLP scheme could be enough stimulus to ensure the New Zealand economic recovery remains sufficiently on track,” ASB chief economist Nick Tuffley said.

But Capital Economics said it still expected ratesto go negative in 2021.

“Admittedly, if a Covid-10 vaccine becomes available and is distributed early next year it is possible that the Bank decides not to cut rates into negative territory,” Capital Economics said in a commentary.

“On balance though we think the economic scarring from the pandemic should be enough for the Bank to cut next year even if a vaccine has started rolling out.”

Capital Economics has pencilled in a 50 basis point cut in the OCR to minus 0.25 per cent at the bank’s April meeting.

Westpac chief economist Dominick Stephens is sticking with this rate cut forecast as well.

He said it was clear the market was interpreting stronger-than-expected economic data as reducing the need for negative rates next year.

However, Stephens still expects further cuts in the OCR in April, May and August next year, to 0.5 per cent.

Stephens says the Reserve Bank’s bond buying programme (LSAP) – which is aimed at keeping interestrateslow – at present capped at $100m, would run out of room, necessitating the need for the Reserve Bank to reach further into its monetary policy toolkit.

“I didn’t see anything in today’s statement that would give the market a lead in that direction,” he said.

“LSAP will run out of bonds to buy before the Reserve Bank’s need to stimulate inflation has expired,” Stephens told the Herald.

A FLP would effectively offer commercial banks a discounted retail rate, which would lower their funding costs and enable them to cut mortgage rates further.

Fisher Funds head of fixed income, David McLeish, said the initial size of the programme, at roughly $20b, looked “skinny” at first glance.

“In order for the FLP to drive down interest rates across the system, it needs to be a viable alternative to other sources of cash,” he said.

“I think it is attractively priced, but I do wonder if it is large enough for the banks to meaningfully reduce their rates on deposits and mortgages,” he said.

On March 16, amid the depths of concern about the worldwide spread of Covid-19, the central bank cut the OCR by 75 basis points to its current level and said it would remain at that level “for at least the next 12 months”.

In its statement, the Reserve Bank said economic activity since the August monetary policy statement, both international and domestic, had proved more resilient than earlier assumed.

In New Zealand this trend was evident across a range of indicators, including employment, household spending, GDP, and asset prices.

These outcomes reflected the effectiveness of the health and economic policy responses to the initial shock, it said.

“However, the Covid-19 shock to the economy is very large and persistent, and inflation and employment will remain below the remit targets for a prolonged period.

“These outcomes are despite the current significant fiscal and monetary stimulus,” the bank said.

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