It's show time! Grab your popcorn and take a seat because Wednesday is going to be a massive day. The RBNZ will deliver a full MPS with updated forecasts, OCR track, and a complete 180 degree turn from May. There will be a few sprained ankles on the RBNZ’s MPC. And given what’s priced in, no matter what the RBNZ do, there’s going to be big moves in markets. See our full preview “From missteps to sprained ankles, the RBNZ’s pivot is here…”

So until Superbowl Wednesday, this is what we know…

We know the economy has been in a recession since the end of 2022. We’ve recorded a double dip recession with another contraction likely in the June quarter. That’s a triple dip. On a per head basis, we’ve recorded a deep 4.3% contraction.

We know inflation is cooling, and is down from 7.3% to 3.3%. And we forecast inflation back below 3% now in the September quarter, before returning to 2% next year. Last week’s fall in inflation expectations would have been great news for the RBNZ. (See our COTW for more).

We also know the labour market is crumbling. The unemployment rate lifted to 4.6% last week from an upwardly revised 4.4%. And while it was mostly in line with the RBNZ’s expectations, high-frequency indicators suggest that the labour market is deteriorating. The labour market lags economic activity by about 9 months. So, there is still a lot of pain to come. We forecast the unemployment rate to break above 5% this year, to a peak of 5.2% or higher. Here’s our labour market review: “There’s more slack in the labour market, as we get paid more per hour, but get fewer hours.”

And we know the housing market is struggling to find solid ground. House prices are going sideways and remain well below the peak. Over the last year house prices are up just 1% (so effectively sideways), but remain 16.5% below the November 2021 peak.

Given what we know we recommend a cut this week, followed by a cut at every meeting until the cash rates hits 2.5%. Neutral is around 2.75% according to the RBNZ. We need to get back to a neutral, no longer restrictive, setting. And if anything, we need a bit of stimulus. But even under this scenario, more cuts are priced into the market near term. We would recommend 75bps (3 x 25bp cuts) by November. The market has 90bps. It's hard to justify received positions, even on our recommendations.

But what we think the RBNZ will do, is somewhere in between. We’re not convinced the RBNZ will pull the trigger this week. They should. But it’s still unlikely. It would be hard to go from pushing out rate cuts and raising the probability of rate hikes in the May MPS, to cutting in August. There’s a credibility issue for the RBNZ’s forecasting team. The RBNZ could always argue “when the facts change...” but to be brutally honest, the facts changed long ago." They are likely to cut this year. Our November pick looks a little outdated given the move in markets. But the risk for traders, is heavily tilted to a sell off, and large pop higher in rates.

Looking at current market pricing, anything less than cutting in August will cause a large spike in wholesale rates. So even if they hold in August and signal cuts from October, the market already has much more than that priced. A “hold” of any description would cause a big back up in interest rates. It’s game on!

If you need something to hold you until then check out our Chart of the Week: Back to the midpoint or our latest regional note.

Financial Markets

The comments below were provided by Kiwibank traders. Trader comments may not reflect the view of the research team.

In rates, the RBNZ August MPS is the scene setter of the year:

“NZ rates did a full circle last week, finishing near where the week started. Employment data stronger vs Inflation Expectation weaker. That’s all in the past with the RBNZ MPS on Wednesday the scene setter for OCR cuts over the next year, and the market is calling for rapid and hefty OCR cuts. There are -19bp of cuts priced for Wednesday, with two domestic banks calling for a -25bp cut, nervousness around the hiking cycle being aggressive keeping the market on edge, not to mention RBNZ silence on current aggressive market pricing. There are -90bp of cuts priced in by calendar year end, and -225bp priced by the end of August 2025. The markets end point pricing of a 3.00% OCR in mid-2026 is the same that the RBNZ forecast back in May, although their forecasts a year later than market.

What to expect in the NZ rates market. There will be movement on a cut/no cut decision. It’s the noxious mix of cutting now vs forecasting cuts in Oct/Nov overlaid with the future OCR track, which back in May was very back loaded for cuts. That thinking looks outdated now. Even on a -25bp cut, which would be seen as early by most, the market will rally in the short end assuming there is more to come and quickly. On a no cut the knee jerk will be rates higher, but likely tempered by dovish RBNZ commentary. As we saw last week it’s about rate cuts moving forward and backward within a 2-year period, the end point pricing remains reasonably anchored now around the 3.00% point. So any change in that end point is important. Regardless, there is a lot priced and the room for disappointment is huge on any RBNZ miscommunication.

The RBNZ said in May that restraint would be tempered with the decline in inflation pressures, this suggests -25bp cuts as a maximum, anything else is a panic signal. Arguably starting earlier could also indicate there is less to do later, not to mention the inflation genie is not firmly back in the bottle yet, so a tentative approach feels much more likely. The RBNZ are meant to be mindful of volatility, what they really care about are retail/business lending rates. Those rates have been on the slow slide, although businesses clearly looking for the floating rate to be reduced and in size.” Ross Weston, Head of Balance Sheet – Treasury.

In currencies, it should be a rocky week for the Kiwi dollar this week:

With the RBNZ MPS this week, there is plenty of opportunity for the Kiwi dollar to see some decent movement. But in which direction? The Kiwi has been fairly tightly rangebound over the last week, given the volatility we have seen in equity markets as uncertainty around geopolitical tensions and growth assets continues to churn. Opening the week around 0.6000, the Kiwi has a relatively sure footing for now. We expect as the RBNZ kicks off its rate cutting cycle that we will see the Kiwi track lower. But there is already a lot priced into the market in terms of cuts from the RBNZ this year. With so much priced in, there is a huge possibility that these expectations will be thwarted on Wednesday. We expect that the RBNZ will hold the OCR this week, but the accompanying statement will hopefully reflect recent data points. With the 2 year ahead inflation expectations dropping 30bp points, the labour market loosening, and CPI slowly returning to target, the RBNZ could certainly cut this week, but we feel that the market has perhaps gotten quite far ahead of itself. If this is the case the Kiwi dollar is likely to head back to the 0.6150 level (or further) in the short term, if no cut is delivered and the RBNZ sticks to their guns and insists that they must see the actual CPI data print at or near target. A dovish outcome should see the Kiwi lower. There is still a major push/pull with the market continuing to eye the Federal Reserve and a potential cut from them in September. We see the latest US CPI print later this week, and this should also provide a bit of movement in currency markets, with any disappointment likely to push the Greenback higher. NZDAUD has tracked in a tight range, but is grinding slowly towards the upper end of the range. The RBA are still quite hawkish in tone, so a dovish angle from the RBNZ will likely see the cross move loser towards the 0.8900 level. Conversely a hawkish surprise on Wednesday should see the cross easily crack the 0.920/0.9250 level. Watch this space. Mieneke Perniskie, Trader - Financial Markets.

Weekly Calendar

• The RBNZ August Monetary Policy Statement is the key domestic event to watch this week. And it's shaping up to be a very interesting one. Consensus amongst market traders is for the cash rate be held unchanged at 5.50%. However, there is high probability that the RBNZ delivers the first rate cut in 4 years. The RBNZ softened its tone at the July policy review as the data has printed weak. A downgrade to their economic forecasts is expected. See above for more.
• Across the Tasman, Aussie labour market data is the focus. The update will likely show a lift in employment, up 25k, just enough keep the unemployment rate unchanged at 4.1%. Labour supply continues to rise due to immigration and high levels of participation.
• US CPI is the main event for financial markets this week. US consumer prices likely lifted 0.2% in July, following June's 0.1% decline. Annually, inflation is expected to edge down to 2.9% from 3%. Energy prices are expected to be the leading driver of the month gain in prices, partially offset by a decline in used car prices. Core inflation is also expected to rise 0.2% over the month, with the annual reading moderating to 3.2% from 3.3%.
• A range of UK data is due out this week. First, labour market stats will likely show the unemployment rate for the three months to June rise slightly to 4.5% from 4.4%. Pay pressures also likely cooled from 5.7% to 5.4%. On Wednesday, headline inflation likely accelerated to 2.3% from 2%. Base effects associated with household utility costs which dropped 15% in July last year likely drove the move higher. Services inflation is expected to drop to 5.6% as accommodation prices moderate. Later in the week, new data will likely show another quarter of impressive growth in the UK. Following Q1'S 0.67% gain, the UK economy is expected to have expanded 0.6% in Q2, despite bad weather and likely election uncertainty over the quarter.
• Chinese activity for July is due out and will likely show that the recovery continues to stall. Early indicators suggest production remained weak and retail sales growth was little improved from past months despite the summer period of travel and tourism. Industrial production likely lifted to 5.4%yoy from 5.3%yoy in June. While retail sales likely rose 2.2%yoy from 2%yoy in June. The uptick in yearly growth however is likely more a consequence of favourable base effects in play, than an improvement in domestic demand.

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