The RBNZ meets next week (28th of October) and we now expect the MPC to raise the OCR by 25 bps to 3.00%, bringing forward our previous call for a December hike. The inflation backdrop has deteriorated since the September meeting. Oil prices are well above$100/bbl and the kiwi has weakened sharply, a combination that adds directly to tradable inflation at a time when headline inflation already sits above the top of the target band. Today’s Q3 CPI reinforces this view. While headline inflation came in a touch softer than expected - due to a fall in fuel prices through the quarter - underlying measures inflation have picked up. With the economy showing signs of resilience, we think the RBNZ will prefer to act now rather than wait for these pressures to buildfurther. A move to 3.00% would take the OCR close to the RBNZ’s estimate of neutral. Beyond this,we now see scope for further tightening, but our base case isthat this is likely to come in 2027. Since the last meeting, the data has been mixed and points to atwo speed economy. Q2 GDP surprised to the upside, rising 0.2% QoQ against consensus of0.1% and the RBNZ’s flat forecast,with upward revisions to earlier quarters lifting annual growth to2.6%. The details showed resilience across much of the economy, even as higher fuel prices weighed on hospitality and transport.
Business surveys have sent mixed signals. Manufacturing has been the bright spot, with the PMI lifting in September to one of its strongest readings in years, led by new orders and production, while employment returned to expansion. Services are a different story. The PSI has now held above 50 for four months, but it is barely expanding, and employment and supplier deliveries remain relatively soft, a reminder that the recovery is narrow.Sentiment is weak in both parts of the economy, with most respondents citing cost of living pressures, fuel prices, interest rates and election uncertainty.Household spending has softened. Card spending fell in both August and September as households cut back on discretionary categories such as hospitality and apparel, with fuel the only category to lift.Spending over the quarter wasup just 0.1%, which likely means a fall in real terms.Taken together, activity has been mixed rather than weak,which leaves the RBNZ room to act. The bigger change since September has been on the inflation side, and Q3 CPI is the first read on how far it has gone.
Q3 CPI rose 0.7% QoQ and 3.7% YoY. That was in line with our quarterly forecast but a touch below our 3.8% annual call, and below consensus and RBNZ expectations of 0.8%and 3.9%. Annual inflation eased from 4.1% in Q2, though we think this easing masks a firmer picture underneath.
The softer headline came almost entirely from fuel. Petrol and diesel prices fell over the quarter after peaking in April, which held tradable inflation to just 0.2% QoQ and pulled the annual rate down to 4.3% from 4.9%. Excluding fuel, however, tradable inflation jumped 1.2% QoQ, its fastest pace in over a year, with higher prices for vehicles,computing equipment and international airfares. This is consistent with the weaker kiwi through the quarter potentially starting to impact import prices. Domestic (nontradable) inflation also firmed, rising 1.0% QoQ from 0.6%in Q2, though the annual rate eased slightly to 3.3%. This was driven by a 6.2% rise in local authority rates, yet rents- which is the single largest weighted component in NZCPI - continued to remain relatively soft.The kiwi sold off modestly following the release, though the move was smaller than the headline miss might suggest, as markets likely weighed the relatively stronge runderlying details.
Indeed, looking at the underlying inflation measures, thereare clear concerns that broader inflation pressures arestarting to pick up. CPI excluding vehicle fuels rose 1.1%QoQ, lifting the annual rate to 3.0% from 2.9%, while CPIexcluding food, household energy and fuel jumped to 2.9%from 2.5%. Services inflation also picked up to 3.1% from2.6%, a further sign that price pressures are broadeningbeyond fuel.
The inflation backdrop is the key reason we have broughtforward our call. The softer headline flatters the picture,as fuel prices have rebounded sharply in recent monthsand will add further inflation pressures through Q4.Indeed, we expect headline inflation to lift to 4% in Q4(slightly above the RBNZ’s forecast of 4%). At the sametime, the Q3 detail shows the weaker kiwi is already liftingimport prices beyond fuel, while underlying measures arepushing toward the top of the target band. This is whereour view currently differs from the RBNZ, as its Septemberforecasts were set before the currency had weakenedsignificantly and oil prices were below $100/bbl, so wethink there are clear upside risks to its inflation path.The RBNZ has one job, which is to bring inflation back tothe 2% midpoint of its target band. Unlike the other centralbanks, it does not have to weigh this against a fullemployment objective, so a softer labour market andweaker household spending do not carry the same weightin its decision. With inflation above the top of the bandand expectations an area of concern, we think the Bankwill move to neutral now rather than wait until December.Relatively resilient growth, likely means the economy mayalso be positioned for further tightening, but we likely seethis occurring in 2027, dependent on incoming data.
