RBNZ Preview: Setting the stage for monetary policy normalization?

• The Reserve Bank of New Zealand to make no changes to its monetary policy settings in July.
• Improving economic activity to lead RBNZ towards monetary policy normalization.
• A hawkish surprise could lift the Kiwi but US inflation data holds the key.

The Reserve Bank of New Zealand (RBNZ) is expected to announce no changes to its monetary policy settings, although may offer some hawkish hints towards policy normalization as early as this year, given the improvement in the economic outlook.

RBNZ’s forward guidance in focus

The RBNZ will likely maintain its Official Cash Rate (OCR) at a record low of 0.25% for the eighth straight meeting this month. The central bank is expected to keep the LSAP program unchanged at NZ$100B while maintaining the Funding-For-Lending program (FLP).

The rate decision will be announced on Wednesday at 0200 GMT. There will be no new published forecasts and Governor Adrian Orr’s press conference at this review.

In May, the central bank held interest rates but hinted at a rate hike as early as September 2022, as New Zealand remains the most successful economy in combating the coronavirus pandemic-induced.

Amid wide expectations of the RBNZ standing pat, the forward guidance will be closely eyed for any tilt towards a hawkish language. The kiwi central bank is seen removing its wording around needing "considerable time and patience" for meeting its goals, in order to set the stage for monetary policy normalization.

The New Zealand Institute of Economic Research (NZIER) said earlier this week, “Many on the Shadow Board now see a tightening in monetary policy at the upcoming July meeting as appropriate. Beyond that, an overwhelming majority thinks the monetary policy should be tightened within the coming year.”

The calls for a hawkish shift in the monetary policy heightened last week after New Zealand’s business confidence improved sharply in the second quarter, which brought forward rate hike expectations by many banks. A solid expansion of 1.6% in the NZ economy in Q1 also underpinned rate hike expectations.

However, with the vaccination drive in early stages, covid concerns resurfacing and the tourism sector still struggling, the RBNZ may refrain from pointing towards tightening any time soon. Markets may still expect the central bank to hint at announcing QE tapering or end to its LSAP program in its August meeting, The RBNZ usually times its changes in policy to coincide with the release of the MPS, which is scheduled next month.

Meanwhile, RBNZ is likely to downplay rising inflation expectations, as it may price in Q2 CPI figures into the forward guidance.

Kiwi’s fate hinges on any hawkish hints, US inflation

The kiwi’s fate hinges on the US dollar’s price action, especially in light of the US CPI data, which will drop in ahead of the RBNZ announcement. Even if the US inflation figures disappoint, the greenback is likely to hold its advantage as a safe-haven asset amid rapidly spreading Delta covid variant on both sides of the Atlantic.

Only a hawkish RBNZ surprise could power the NZD bulls to reclaim strong footing above the bearish 21-Daily Moving Average (DMA) at 0.7013. Note that the currency pair has failed to find acceptance above the latter on several occasions. Further up, NZD/USD could advance towards the 200-DMA at 0.7075.

However, if the central banks disappoint the hawks, the kiwi could change its course and fall back towards the critical horizontal trendline support at 0.6923. The kiwi’s reaction to the policy announcement, however, could be affected by the prevailing market mood and the dollar’s dynamics.

More: NZD/USD technical analysis: Buyers resurface at 7-month support level