The Reserve Bank have lowered the Official Cash Rate by 50 basis points today as expected. A lot of this was already priced-in by the wholesale markets, as the Reserve Bank observed in their accompanying Monetary Policy Statement.
They noted that short-term wholesale rates have fallen since the August Statement, but long-term rates have increased.
The 1-year swap rate has decreased around 70 basis points since the August Statement. However, higher offshore long-term wholesale interest rates, particularly in the US, have led to an increase in longer-term wholesale interest rates in New Zealand.
New Zealand’s long-term interest rates have been drifting higher despite expectations that the RBNZ will cut interest rates in coming months. As noted by the Reserve Bank, this is under the influence of global moves in interest rates, particularly in the US.
In the US, better-than-expected economic data, particularly with respect to the labour market, has delayed expectations regarding the pace of cuts by the US Federal Reserve. Markets and analysts have also turned their attention to the growing size of America’s national debt.
The size of the US government’s deficit gained greater market attention in the lead up to the US Presidential election:
- This year’s US budget deficit is on track to top $1.9 trillion, or more than 6% of economic output, a threshold reached only around World War II, the 2008 financial crisis and the Covid-19 pandemic.
- Publicly held federal debt—the sum of all deficits—just passed $28 trillion or almost 100% of US economic output. The total debt is forecasted to climb by another $22 trillion through 2034 to record levels.
- Interest payments by the US government are poised to exceed annual defence spending.
This is a looming issue for America. While Trump’s pick for next Treasury secretary, Scott Bessent, wants to address the deficit, the composition of the federal deficits means he has a mountain to climb to deliver a credible plan to address the mounting debt levels.
The concern is that a growing deficit will require the US government to issue more bonds. All else being equal, higher interest rates will be required to attract investors to buy these bonds given the increase in supply.
Put together, this means that the response of mortgage interest rates to today’s decision has been muted. Floating and short-term fixed rates have been sticky as a lot of today’s cut in the OCR was already priced-in by the wholesale markets. The longer-term fixed rates have remained anchored under the influence of global moves in interest rates.