Wednesday 24 February 2021

An OCR cut isn't dead after all

Every economist polled before today's Monetary Policy Statement (eg here and here) said there'd be no change to the Official Cash Rate (OCR). Quite a few (including me) thought it's unlikely that any further cuts are on the table (and that the option of going to a negative OCR might even be taken off the table by the Reserve Bank); that the next move will be up (likely preceded by winding back some of the unconventional monetary policy tools); but that it's still necessarily a longish way away. Personally I was also wondering what weight the Bank would place on the December higher than expected inflation rate and the very much lower than expected unemployment rate.

The OCR did indeed stay at 0.25%. Taking it to zero or into negative territory has not, however, taken off the table: quite the contrary. The Statement said (p3) that it's now operationally do-able ("the operational work to enable the OCR to be taken negative if required is now completed") and the minutes of the latest policy meeting said (p6) that "The Committee agreed that it was prepared to lower the OCR to provide additional stimulus if required". There was even a section on pp26-7 headed "A zero or negative OCR would provide additional monetary stimulus, if required" and went into how it might work out in practice.

Adrian Orr was asked at the media conference about the pre-MPS expectation that a lower OCR might be sidelined: he said the bank prefers to maintain a full suite of options against whatever might befall down the track. Fair enough: personally I was starting to wonder whether a lower OCR catalyst might be the need to defuse any unwanted appreciation in the Kiwi dollar. 

The Bank is rightly being cautious on reading too much into the December numbers: "How long the recent recovery in inflation and employment can be sustained is highly uncertain ... Our baseline scenario for the economy, while starting from a stronger position than assumed in November, is subdued. Significant monetary stimulus remains necessary to confidently and sustainably meet our inflation and employment objectives" (p7). 

So there will be "a prolonged period of time to pass before these [inflation and employment] conditions are met" (p6) and "Meeting these requirements will necessitate considerable time and patience" (p3). How long? The Bank publishes a measure called the "unconstrained OCR"* which has a go at measuring the overall degree of stimulus: its latest one (p41, reproduced below) shows the existing level of stimulus increasing just a tad during the rest of this year, but gradually becoming less stimulatory (though still strongly supportive) through 2022 and into 2023. When will monetary policy be back at "neutral"? If (as Figure 6.4 on p50 suggests), a "neutral" OCR is something like 2%, chances are that we won't see one till 2024 or beyond.

There's usually some interesting one-off stuff in each Statement. There's a box (pp19-21) on current conditions in the Māori economy, and this new visualisation (p14) of conditions in the labour market, which does a nice job of bringing together the various ways you might look at the market to figure out how close you are to maximum sustainable employment. 

*In the May 2020 Statement, p11, it had said that "the Reserve Bank used a projection of the OCR to highlight the level of monetary stimulus needed to achieve our inflation and employment objectives. A fall in the OCR projection relative to the previous Statement meant that more policy stimulus was needed. We have had to modify this practice given the Monetary Policy Committee’s forward guidance on the OCR out to early next year and the use of alternative monetary policy instruments. We have opted to publish an unconstrained OCR ... This demonstrates the broad level stimulus needed to achieve the Reserve Bank’s monetary policy objectives, much like the OCR projection demonstrated in the past"

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