NZD/USD Tumbles as Inflation Outlook Spurs RBNZ Rate Cut Bets

Talking Points:

• NZD/USD declines after New Zealand inflation expectations declined
• 1Q 2016 CPI expectations at 1.63 percent, lowest level since June 1994
• New Zealand government bond yields fall suggesting increased rate cut bets

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The New Zealand Dollar declined against its US counterpart after the Reserve Bank of New Zealand released its 2-year inflation expectations. The Consumer Price Index (average prices for a basket of selected consumer goods and services), is expected to increase 1.63 percent over the next 2 years from the first quarter of 2016. This marks the slowest pace of expected inflation growth (disinflation) since June 1994.

The RBNZ lowered interest rates to a level perceived as appropriate to reach its inflation target between 1-3 percent back in December. In its most recent monetary policy announcement, the central bank announced that some further easing may be required to ensure average future inflation settles near the middle of the target range (~2%). Today’s data release marks a second consecutive time 2-year inflation expectations declined. In other words, the opposite direction of what the central bank is expecting.

After the data crossed the wires, front-end New Zealand government bond yields declined. This suggests that the markets interpreted the data to lead the RBNZ to cut rates sooner rather than later. Overnight index swaps are pricing in at least one rate cut from the central bank over the next year.