Kiwi Takes Flight as RBNZ Delivers an Unexpectedly Hawkish Message

May 26, 2021
  • The drop in U.S. yields continues; more Fed officials are talking about talking about tapering
  • Details of ECB asset purchases for the week ending May 21 were reported; U.K. politics will likely heat up today; Hungary left rates on hold at 0.60% yesterday but confirmed its hawkish stance
  • Japan cut its economic assessment for the first time in three months; RBNZ unexpectedly delivered a hawkish hold; the yuan continues to appreciate to 3-years high with officials expressing no concerns; press reports that Chinese regulators have told bank to stop issuing commodity-linked financial products

The dollar is getting some modest traction. DXY is up for the first time this week after two straight down days. After making a new low for this move yesterday near 89.535, it is up modestly today but still trading below 90. The euro is down slightly after it traded at new highs for this move near $1.2265 yesterday, while sterling is lagging a bit and so far has been unable to make a convincing break above $1.42. USD/JPY is trading in narrow ranges just below the 109 area, with the yen likely to underperform as Japan’s economic outlook worsens (see below). Until we see stronger U.S. data and higher U.S. rates (both real and nominal), the greenback is likely to remain vulnerable.


The drop in U.S. yields continues. The 10-year nominal yield has fallen to 1.56%, the lowest since May 10. With 10-year breakeven inflation rates steady at 2.45%, the real U.S. 10-year yield has fallen back to around -0.88% after trading as high as -0.82% last week. Some are linking the bond rally to month-end factors, but we believe the fundamental story says yields should be higher. The market may get a reality check Friday, when the U.S. reports May Chicago PMI and April core PCE data. We see upside risks to both readings that will make it hard to justify a 10-year yield near 1.50%.

More Fed officials are talking about talking about tapering. Quarles speaks today. Yesterday, SF Fed President Daily said "We are talking about talking about tapering." She added that "I want to make sure that everyone knows that it's not about doing anything now. Right now policy is in a very good place." Recall that in the March 16-17 Dot Plots, four FOMC members saw the first hike in 2022. If Fed comments since last week’s release of the FOMC minutes are any indication, that would suggest those four are Kaplan, Daly, Harker, and Barkin. However, we think it is very likely that more than four Fed officials now see a hike next year and so the June 15-16 Dot Plots will be very, very interesting. Here too, rising tapering risks argue for higher U.S. yields.


Details of ECB asset purchases for the week ending May 21 were reported. Yesterday, redemptions of EUR2.1 bln were reported. With net purchases already reported at EUR21.7 bln, gross purchases came in at EUR23.7 bln vs. EUR23.2 bln for the week ending May 14 and EUR24.6 bln for the week ending May 7. Both net and gross purchases have picked up noticeably over the last few weeks and the accelerated pace will be reviewed at the June 10 meeting. If yields continue to rise, then the current pace is likely to be extended into Q3, which would be a dovish sign. This week, ECB officials Panetta, Villeroy, and Stournaras have all signaled that they favor extending the current policy settings.

U.K. politics will likely heat up today. Prime Minister Johnson’s former adviser Dominic Cummings will present evidence today to a Parliamentary committee investigating the U.K. pandemic response. Cummings has already issued a string of statements and tweets that are highly critical of Johnson, but has yet to present any concrete evidence. The headlines are likely to be incendiary, with local press reporting that Cummings will claim Johnson offered to be injected with the virus live on TV in order to “show it’s nothing to be scared of.” That said, recent local elections and polling suggest Johnson’s popularity has recovered since the successful vaccine rollout and reopening of the economy. As such, this may turn out to be a tempest in a teapot. Stay tuned.

The Hungarian central bank left rates on hold at 0.60% yesterday but confirmed its hawkish stance. CPI rose to a 9-year high of 5.1% in April, well above the 4% top of the bank’s target range. Official communication stated they are “ready to tighten monetary conditions in a proactive manner”, which probably means a that the odds of a hike at the June 22 meeting are very high. This is consistent with last week’s comments by Deputy Governor Virag signaling that the first rate hike since 2011 is near. So, what do Hungary and Czech Republic know that we don't? Nearly every major central bank is saying inflation is transitory and yet we have these two in EMEA ready to hike in June. Poland is also likely to come under pressure to hike in the coming months. We don't want to put too much weight on 2-3 small economies in Eastern Europe but we do think markets should be reassessing global inflation and tightening risks.


Japan cut its economic assessment for the first time in three months. This shouldn’t come as too much of a surprise after the government extended its third state of emergency for much of the country. In its monthly report for May, the Cabinet Office saw further weaknesses in parts of the economy, which was slightly stronger language than last month, when it saw “some weakness.” The report downgraded the outlook for business conditions and consumer spending, noting weakness in services. However, it continued to describe overall conditions as improving from a severely low base. We think there are growing risks that the economy contracts in Q2 given the ongoing virus restrictions linked to the state of emergency. As such, we are more confident than ever that the Suga government will push through another fiscal package over the summer.

Reserve Bank of New Zealand unexpectedly delivered a hawkish hold. As expected, it kept the official cash rate steady at 0.25% and maintained its QE at NZD100 bln. However, the bank caught markets off guard by projecting the first rate hike in H2 2022. The bank sees the average OCR rising to 0.67% by end-2022, implying 1-2 hikes, and then to 1.78% by mid-2024, the end of the forecast period. That is a very hawkish rate path that we find highly unlikely. Of note, the RBNZ resumed its practice of publishing its cash rate forecasts after a pause of more than a year but stressed that the projections were “conditional on the economic outlook evolving broadly as anticipated.” This was quite a U-turn from the last meeting April 14, when the RBNZ delivered a dovish hold when it said that gaining enough confidence to remove accommodation “is expected to take considerable time and patience.” With New Zealand yields rising across the curve (2-year +67 bp, 5-year +10 bp, and 10-yaer +8 bp), NZD appreciated over 1% to a new cycle high near 0.7315. It is on track to test the 2021 high near 0.7465, while the AUD/NZD cross sank towards 1.0640 support and on track to test the 2021 low near 1.0540.

The yuan continues to appreciate to 3-years high with officials expressing no concerns. The PBOC continues to let the USD/CNY reference rate move lower and local media suggests that policymakers are unlikely to stand in the way of the move. We know there are some policymakers that view the strong yuan as one tool to help limit inflation. The yuan has appreciated 2% on the year and over 10% since last May. We also think that strong yuan will also help bolster other EM currencies, especially in Asia, if nothing else from an eventual improvement in trade competitiveness.


Separately, reports have emerged that Chinese regulators have told bank to stop issuing commodity-linked financial products. This confirms that officials are very serious about cracking down on speculation. Iron ore futures continue to decline, now entering its sixth consecutive session and down over 20% since the highs earlier in the month. The move in copper has been far less dramatic, down 5% over the same period but still noteworthy.

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