NZD Inflation Data Underlines RBNZ Hold Stance

The New Zealand dollar has been the weakest performer among the G10 currencies in the last five trading days, and it further depreciated against the US dollar yesterday. The US dollar's broad rebound was strengthened by the release of New Zealand inflation data, which suggests that the Reserve Bank of New Zealand (RBNZ) will likely maintain interest rates and has probably completed its tightening cycle. Lately, the New Zealand dollar has underperformed the Australian dollar, as the latter received greater support due to global growth optimism. Although there was a brief reversal in this trend yesterday, I still believe that there is potential for the AUD/NZD pair to rise further. I maintain a long AUD/NZD trade view, as I anticipate a potential divergence in monetary policy that could drive upside momentum for the Australian dollar against the New Zealand dollar.

The Q2 New Zealand inflation data showed a less significant decline from the Q1 reading (6.7% to 6.0%) compared to the expected 5.9%. However, the drop was slightly more than what the RBNZ had projected (6.1%), indicating the possibility of inflation undershooting future projections. Like in some other countries, there are signs of inflation stickiness, with tradeable inflation components coming in weaker than expected at 0.8% Q/Q (versus the expected 0.9%), while non-tradeable inflation was stronger at 1.3% Q/Q (versus the expected 1.0%). The RBNZ's Sectoral Factor Model Inflation measure, a core inflation indicator, remained unchanged at 5.8% YoY, indicating persistent inflation pressures. Despite signs of inflation stickiness, the drop below the RBNZ's projection for Q2, combined with New Zealand's recessionary state, will likely keep the RBNZ's policy on hold.

The New Zealand rates market is still biased towards higher rates, which seems to be influenced more by the RBNZ's hawkish rhetoric than the actual data. However, we see the risks tilted towards inflation decreasing more rapidly, leading the market to gradually price in rate cuts in 2024. Additionally, New Zealand's poor external position poses risks of underperformance compared to other G10 currencies. The country's current account hit a record deficit in Q3 2022, and the four-quarter rolling sum remains close to a record, with the deficit equal to 8.5% of GDP.

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