FX Focus - AUDNZD – RBNZ’s Dovishness vs RBA’s Hawkishness

Last week, the Reserve Bank of New Zealand (RBNZ) at its July meeting, while keeping its cash rate unchanged at 5.5%, delivered the most dovish statement since it began hiking rates in late 2021. What surprised investors is that the dovish pivot came without the support from any new domestic data. RBNZ reiterated that policy needs to remain restrictive for now but added that “a range of business and consumer surveys, and higher frequency spending and credit data, all point to declining activity.” In particular, the RBNZ now noted that “the Committee is confident that inflation will return to within its 1-3 percent target range over the second half of 2024” and that “members agreed that there is now more evidence of excess productive capacity emerging, with measures of capacity utilization and difficulty finding labor easing materially”. Moreover, “members discussed the risk this may indicate that tight monetary policy is feeding through to domestic demand more strongly than expected”.
 

The key statement from the RBNZ was "the extent of this [monetary] restraint will be tempered over time consistent with the expected decline in inflation pressures" whereas the May statement had simply said “monetary policy needs to remain restrictive. The RBNZ now appears to be more concerned by recent survey measures consistently pointing towards activity weakness while becoming more confident in hitting its inflation forecast in H2’24, indicating a clear shift in the balance of risks. As a result, the RBNZ seems to be signaling some urgency towards easing financial conditions, raising odds for the RBNZ to commence cutting rates before year-end. Rates markets now discount the first full RBNZ 25bp cut in October, 60bp in cuts to the end of 2024 and 165bp in cuts to the end of 2025 with rising risks of commencing cuts earlier in August. Contrast this with the market’s pricing of the Reserve Bank of Australia (RBA) that discounts the next move to be a 25bp rate hike from the current 4.35% to 4.60%, possibly as early as RBA’s August meeting and the first rate cut back to the current 4.35% cash rate is discounted to take place in March 2025 with a total of 60bp in cuts priced to the end of 2025 (from a 4.6% cash rate). Both markets and Citi Economics expect the RBA to be much more hawkish than the RBNZ right though to the end of 2025.
 

With the RBNZ biased towards earlier and deeper rate cuts versus the RBA potentially keeping rates higher for much longer, if not further raising rates by August, this potentially leaves the path of least resistance for AUDNZD to continue to climb higher as NZD – AUD rate differentials continue to compress in favor of AUD. Add the relative terms of trade outperformance from Australia and investor positioning that shows a market at near record long NZD and more vulnerable to investor liquidation whereas AUD positioning is still on the short side, all this potentially adds up to providing further support for the AUDNZD cross on dips over the medium term.