In line with recent upbeat commentary and forward guidance it seems likely that Norges Bank will be the next in the G10 bloc to start tightening its monetary policy. At its latest meeting, held earlier yesterday, the bank signalled that it was expecting to raise rates in Q3. However, given the recent downturn in data this view seems conflicted, especially in the context of persistently low inflation. Nevertheless, the NOK rallies as Norges Bank reaffirms rate hike.
Inflation Weak but Survey Data Optimistic
Although recent inflation data has been disappointing, the Regional Network Survey has remained surprisingly firm, continuing to show an improving outlook across a range of industries. Norges Bank’s own forecast for domestic GDP is equally optimistic, projecting 2.8% for 2018. Additionally, low unemployment suggests further widening of the output gap though, in sync with what we are seeing globally, wage growth remains subdued.
NOK Driven by Norges Bank for Now
While commentary from the bank has been positive, it seems that Norges Bank will need to commence a tightening cycle in order to drive bullish momentum in NOK. As the currency is currently trading close to rate differentials any shift in forward guidance will have a strong affect on NOK. Added to this picture is the fact that Oil prices have become much more supportive over recent months which is likely to continue.
Since the Last Meeting
Commentary out of Norges Bank since the last meeting has been equally optimistic, highlighting the bank’s expectations of a rate hike “after summer” with the statement reading that “the key policy rate would most likely be raised after summer 2018”. However, this view has been at odds with incoming hard data which has painted a different picture thus far. In line with this, it isn’t expected that the bank will move on rates any earlier than currently expected (Q3) and at this month’s meeting, focus will be on how the bank adjusts its forward guidance. If the bank strikes a more cautious tone, acknowledging recent data weakness, this could fuel further NOK downside in the short term ahead of the June Monetary Policy Report.
Case for Caution
Although the bank lowered its inflation target from 2.5% to 2% at the beginning of March, core inflation is still running well below target at around 1.2%. The bank also lowered its core inflation target last time around with core inflation now expected to reach target only by Q2 2021. Furthermore, the bank’s short-term models for averaging forecasts and even greater slowdown in core inflation in the near future which casts doubt over whether the bank will even be in a position to raise rates after the summer if inflation falls to such low levels. While some point to the historically low NOK exchange rate as likely being responsible for the drag on inflation it is worth highlighting that inflation of imported goods has been sitting at or near zero percent since summer 2017.
Inflation is not the only disappointing indicator since the last meeting either, with Norway currently experiencing the highest level of negative surprises among the G10 bloc. As a result, the market has had to adjust its expectations and data surprises are gradually rebounding off their weakest levels since 2004.
Again though, it is important to remember that survey data paints a far rosier picture for the outlook as, with the exception of retail trade, all other components of the Regional Network Survey posted a gain in the last reading, consistent with Norges Bank’s own GDP forecasts. With this in mind it seems that, the bank is firm in its conviction to press ahead with a rate rise later this year.
For now, USDNOK remains trapped between two key levels, resistance at the 8.1123 level which was the November 2017 low and support at the 8.0588 which was the broken February high.