The Australian and New Zealand Dollars finished higher last week and in a position to challenge multi-year highs reached in January. The rallies were fueled by a weaker U.S. Dollar and increased demand for higher risk assets.
Investors also responded to rising government bond yields that signaled their respective economies were heating up. This raises the possibility of an earlier than expected tightening from the Reserve Bank of Australia (RBA) and the Reserve Bank of New Zealand (RBNZ). This issue may be addressed by the RBNZ on Wednesday.
RBA Calls for Sustained Tightening
Reuters reported last week that Australia’s central bank believes it will take a significant and sustained tightening in the labor market to lift inflation to more comfortable levels, a tough task that could take years to achieve.
Minutes of the Reserve Bank of Australia’s (RBA) February policy meeting released on February 23 showed the Board recognized that wage growth had been too subdued for years before the pandemic imposed its own restraints on pay.
“A sustained period of labor market tightness would be needed to generate the faster wage growth required to see inflation return to the 2 to 3% target range,” the Board agreed.
According to Reuters, the RBA’s own forecast is that underlying inflation will not even reach 2% by the middle of 2023, a major reason it does not expect to start raising interest rates until 2024 at the earliest.
The RBA this month also doubled the amount of government bonds it intended to buy to A$200 billion and extended the plan to October.
The central bank estimated its purchases so far has kept 10-year bond yields 30 basis points lower than they otherwise would have been and put downward pressure on borrowing costs cross the economy.
It had also held the Australian Dollar “noticeably” lower than it would have been given other major central banks were conducting massive bond purchases of their own.
The RBA Board recognized that holding rates so low could lead to increasing borrowing and rising asset prices, particularly for housing.
“The Board concluded there were greater benefits for financial stability from a stronger economy, while acknowledging the importance of closely monitoring risks in asset markets,” the minutes showed.
This week, it’s the Reserve Bank of New Zealand’s (RBNZ) turn to meet and discuss monetary policy.
According to Bloomberg, “New Zealand’s central bank may try to dispel talk of monetary tightening at its first policy decision of the year.”
The Reserve Bank will stress the need for ongoing monetary support when it leaves the official cash rate at 0.25% Wednesday in Wellington, economists said. It is likely to signal the OCR will be on hold well into 2022 and may refrain from publishing a forecast track that includes a rate hike, they said.
The RBNZ is facing the same issues with rising rates and inflation as the Federal Reserve. Rising bond yields could be signaling the reflation of the economy that the RBNZ wants to see, but they cannot allow it to get out of control or policymakers may be forced to tighten policy faster than the market expects, offsetting some of the good that has to come with the jump in yields.
For a look at all of today’s economic events, check out our economic calendar.
This article was originally posted on FX Empire