Central bank divergence on the radar: Hawkish RBNZ, Dovish BOC and SNB

However, the delay in the first Fed rate cut expectation from March to June begs the question on whether Fed will be leading the rate cut cycle again. Some of the other economies such as Eurozone or Swiss face imminent recession threats, and their central banks may not be in a position to wait until mid-2024 to cut rates. While inflation has come down from the peaks everywhere, the move back to target will be determined by how sticky services inflation proves to be for different economies. In fact, rate hikes also appear to be back on the table, even though they remain unlikely. FX conversations, however, have shifted to competitive pivots and how central bank divergence could play out before we get into a synchronized central bank easing cycle.

RBNZ: a delayed pivot

New Zealand’s Q4 CPI came in as-expected on the headline but the higher-than-expected non-tradeable CPI was a key concern. Eight of the 11 main groups in the CPI basket increased in the quarter, led by rents, residential construction costs and local government land taxes. 2-year inflation expectations dropped to 2.5% in Q1, but the 1-year expectations remained above the 1-3% target range at 3.22%. This is key given RBNZ Governor Adrian Orr’s recent comments where he highlighted that bringing core inflation in-line with the 1-3% target range is important to bring inflation back down to 2% midpoint. This language seems more aggressive compared to most other G10 central banks that appear happy with the trend of inflation moving back towards the target and do not expect to wait until is comfortably within the target range. Slow deceleration in wage growth and further strength in migration continues to send an inflationary impulse, which means that RBNZ is unlikely to give up its hawkish stance at the February 28 meeting next week.

ECB and BOE: anemic growth outlooks

ECB is expected to start cutting rates in June, and Bank of England in priced in to go in August. However, both economies face recession threats which could dampen the price pressures materially and bring risks for both the central banks to cut earlier than expected. ECB could move ahead of the Fed, potentially in April, while the Bank of England will need to watch the persistent services inflation and wage pressures but could move in lockstep with the Fed around May or June. Governor Bailey’s recent comments were telling. He said that “we don’t need inflation to come back to target before we cut interest rates,” which is a signal that BOE could cut rates faster than market expectations.

SNB: leading the rate cut cycle?

Our previous article, titled Swiss Franc’s bearish view gets more legs, we talked about the faster-than-expected cooling in Swiss January CPI. Meanwhile, Swiss authorities are getting concerned about the impact of strong franc on the economy. Markets are still pricing in only around a 60% chance of a rate cut in March. If the SNB wants to stay ahead of the ECB in the rate cut cycle, then odds of a March rate cut could be higher from here.

RBA, BOC: tough to buy into pivot delay narratives

Canadian CPI fell faster than expected in January, questioning the narrative from Bank of Canada about the delay in a pivot. Headline inflation came in at 2.9% YoY, getting back in the 1-3% target range. Markets have however not fully priced in a June rate cut for now, and could be seen increasing the odds of a June, or even an April rate cut. Tumbling commodity prices and range-bound oil prices also offer little to support the Loonie.

RBA hawkishness is also still lingering, as evident in the meeting minutes this week. But markets are unlikely to price in any more tightening like in the case of RBNZ. Weak China dynamics and decline in iron ore prices will also continue to keep AUD under pressure, however any expansion in China’s stimulus measures could support or even push AUD higher.

FX implications

The US dollar is likely to trade sideways in this environment, when much of the hawkish Fed comments have been priced in but exceptionalism and high yields still continue to provide support to the greenback. This means that competitive pivot stories could create opportunities in the FX crosses, particularly to stay long NZD. Kiwi could gain on the back of delay in rate cuts, and it is a high-yielder, so will be a key choice for any carry trades diverting away from the USD. NZDUSD, but particularly long NZDCAD or NZDCHF could be interesting. Short AUDNZD, GBPNZD or EURNZD can also be considered, but these would be low conviction for now.

Bearish CAD trends could also be in focus, and CAD stands to lose not just against USD, but also against NZD and AUD. GBP has room to sustain strength now, but faces risks of a sharper reversal later.

-----------------------------------------------------------------------

Other recent Macro/FX articles:

21 Feb: Global Market Quick Take - Asia
19 Feb: Macro & FX Podcast: How the debate about the US economy has shifted
19 Feb: Weekly FX Chartbook: Dollar rally looking stretched, bullish signals for NZD
15 Feb: Swiss Franc’s bearish view gets more legs
14 Feb: Sticky US inflation could make dollar strength more durable
13 Feb: Weekly FX Chartbook: US and UK disinflation story in focus, watch for ECB split widening
9 Feb: Japanese Yen is throwing a warning
8 Feb: FX 101: USD Smile and portfolio impacts from King Dollar
5 Feb: Weekly FX Chartbook: More and more reasons to stay long US dollar
1 Feb: FOMC out, BOE and NFP next – will the hawkish waves continue?
30 Jan: USD remains a tough sell even with a dovish Fed outcome
29 Jan: Weekly FX Chartbook: Earnings and geopolitics to take the focus away from Powell
25 Jan: US PCE Preview: March rate cut bets could pick up again
24 Jan: Markets could start to price in a Trump presidency
24 Jan: ECB Preview: Will EUR pay heed to the pushback to April cut expectations?
23 Jan: Podcast: Central banks and key figures run the show
22 Jan: Video: The Curious Investor - Q1 2024 FX and Commodities Outlook
22 Jan: Weekly FX Chartbook: Soft-landing hopes and US exceptionalism will remain at play
19 Jan:  A reality check on Bank of Japan’s policy normalization and JPY appreciation expectations