Trade deals and announcements are still slow going. However, we did finally get some progress between the US and China last week. Both countries have agreed to temporarily reduce tariffs on each other by 115% for 90 days as they continue with negotiations. As such, US imports heading to China now face a 10% tariff, while Chinese imports to the US face a 30% tariff.

Markets have reacted positively, with equities recovering from their post-liberation day losses. Meanwhile, the US dollar has re-gained some strength after some hefty losses. Talk of anti-US de-dollarization (you know, the “let’s get our money out of the US” movement) has quietened down. We however, are not getting carried away on the news. Don’t get us wrong, the temporary tariff reduction between the US and China is a good first step. But the key word here is “temporary”. What comes out of negotiations is still unknown. It’s a truce for now. And a welcome reduction in tariffs. We’re likely to see a surge in Chinese imports to the US. But a 30% tariff could still see an overall lower level of US Chinese imports than would have otherwise been prior to any tariffs. So, it’s still not good for China. And it’s not good for global growth. Plus, we still awaiting the other 75 countries who were set to negotiate a trade deal with the US. The clock keeps ticking.

Here at home, Budget 2025 kicks off a busy fortnight. And fiscal consolidation will be the focus, as laid out in the 2025 Budget Policy Statement (BPS) – “Spending restraint is the Government’s key top-down tool to ensure its fiscal strategy is realised”. So, expect the Government to hold back on new spending, shuffle around planned spending, and for some govt departments (outside of the key focus areas like health and education) to receive no extra funding. The Minister of Finance, Nicola Willis, has already announced operational allowances for Budget 2025, will be reduced from $2.4bn per annum to $1.3bn per annum.

Budget 2025 will be delivered against a highly uncertain and deteriorating global backdrop. A downgrade to the Treasury’s economic projections is inevitable. A weaker short-term economic outlook, particularly for our trading partner growth, will likely weigh on forecast Crown revenues. However, the Finance Minister’s decision to slash this year’s operating allowance to the lowest level in a decade should provide some offset. Alongside other savings initiatives, Budget 2025 may reaffirm the Government’s intention to return the books (OBEGALx – Operating Balance before Gains and Losses, excluding ACC balances) to surplus in 2028/29, albeit likely returning to a smaller magnitude.

Operating allowances are one thing, capital allowances are another. And consistent with the Government’s “Going for Growth” agenda, we will likely see a boost to capital spending. In his pre-budget speech, Prime Minister Christopher Luxon, announced a $400m increase in net capital expenditure allowances to $4bn, up from the $3.6bn annual allowance for the next four budgets as previously outlined. The announced increase is to be split mostly across health, education, defence, and transport. Higher fiscal deficits in the near-term as well as a lift in capital spending, point to higher public debt than previously forecast. As a result, we may see the Treasury pencil in a modest increase in the Government’s debt issuance programme.

What matters most to us though is the upcoming RBNZ May MPS. Though still two weeks away, we're eager to see the RBNZ’s latest assessment of both global and domestic economic conditions. In terms of the immediate policy move, markets have fully priced in a 25bps cut in May, though there's arguably a case to be made for a larger 50bps cut given the economic backdrop. From our perspective, a 50bps cut would be justified and appropriate. We’d champion it. However, what we think the RBNZ should do and what we expect them to do are two different things. We believe the RBNZ will take a more measured approach and deliver a 25bps cut at their May MPS. Still, the magnitude of the cut matters less than the endpoint of the cash rate. And we continue to expect another 100bps of rate cuts to 2.5%. The RBNZ are slowly coming around to this view. Watch the OCR track.

Financial Markets

The comments below were provided by Kiwibank traders. Trader comments may not reflect the view of the research team.

In rates, volatility returns to rate markets

“After a brief lull, volatility returned to rates markets last week kicked off by another walk back on tariffs. This time between the US and China. This saw expectation for rates cuts pared and global yields head higher. This volatility was heightened in Kiwi, as the outperformance against other markets we’ve seen lately started to be tested. The front end, which had been shrugging off global moves for the last few weeks, saw 10bps of cuts taken out, from 2.75 back up to 2.85. The 2-year now is now back to the top of recent ranges at around 3.20.

Adding to doubts about further easing currently priced was a series of strong second tier data. SPI though volatile was stronger than expected pointing to a higher CPI. And the lift in the RBNZ’s inflation expectations survey on Friday saw the reversal of an initial rally and rates underperform.

Looking ahead, the RBA on Tuesday is widely expected to see a 25bps cut with strength in employment and inflation seen as falling just short of delaying a delivery of a cut. Though the pull back on tariffs would seem to reduce the immediate need for subsequent cuts. Domestically the focus will be on the budget, though no big spending is expected or a big boost to the supply of NZGBs.” Matthew Crowder, Balance Sheet Manager – Treasury.

In currencies, rumours and speculation plague the US dollar

“It was another week of relative calm in the broader financial markets last week, with the major headline being the 90 day ‘truce’ between China and the US, which saw a significant reduction in tariffs on either side for the time being. Of course there is a lot more to play out here, so we expect that some turmoil may return at the end of the truce period. The Kiwi dollar opened last week at 0.5920, and dropped to a brief low of 0.5848 as the US dollar benefitted from the positive sentiment around the China-US truce. Midweek saw rumours and speculation plague the US dollar, as the Korean Won gained 2% versus the dollar, and news hit the wires that FX policy had been discussed between US and South Korean officials, earlier in May. The speculation was largely around whether the US would include FX policy in trade negotiations, as they would benefit from a lower US dollar. The US dollar was again sold off and the Kiwi hit a mid-week high of 0.5967. The speculation around US FX policy was soon put to bed however, and the US dollar retraced upwards, and the Kiwi sat close to the 0.5870 level again. To close out the week, the RBNZ released their latest survey of 2 year ahead inflation expectations. There was a significant increase in those key metrics with the 2-year expectation moving from 2.06% to 2.29%. This saw the Kiwi sail up to a high of 0.5918 on Friday afternoon. Into the New York close we settled the week back at 0.5881. So, while it was a relatively calm week, there was still a lot going on in the world of currencies. Over the weekend, Moody’s downgraded the US credit rating to Aa1 from AAA, citing their increasing budget deficit, which has little sign of improving any time soon. We expect this to put a dampener on risk sentiment as the week begins, and the US dollar. The Kiwi is likely to benefit from this initially. Our pick for the Kiwi dollar in the week ahead is a range between 0.5850-0.6020.” Mieneke Perniskie, Trader - Financial Markets.

Weekly Calendar

• Domestically, the Treasury’s Budget Economic and Fiscal Update next Thursday will be the main headline grabber over the week (see commentary above). However, other interesting domestic data points of note will be the monthly merchandise trade balance and retail sales numbers for the March quarter.
• In recent months, the trade balance has remained strong supported by higher commodity prices and solid demand across the primary sector. However, it will be worth watching for any early signs of tariff impacts in the upcoming release.
• Retail sales for the March quarter are expected to reflect a still-muted monthly trend. While lower interest rates may be providing some support to household spending, broader headwinds persist, including a soft labour market and continued weakness in housing. Both of which continue to dampen consumer confidence and spend.
• Across the ditch, on Tuesday, the RBA are expected to deliver a 25bps cut to the Cash rate taking it to 3.85%. However, policymakers are likely to maintain a cautious, and potentially hawkish tone, regarding further easing. Annual trimmed inflation remains only marginally within the RBA’s target range, Meanwhile the labour market remains resilient. That plus additional fiscal stimulus still in the pipeline is likely to see the RBA stick to similar messaging as last time -pointing to the risks on both sides and remaining cautious.
• Further ashore the data focus will be very inflation news driven with the Eurozone, UK and Japan inflation figures out throughout the week. Consensus around Eurozone inflation on Monday is for another 0.6% monthly rise in prices, seeing the annual rate hold at 2.7%. Similarly, Japan’s headline inflation rate is expected to hold at 3.6%. However, core inflation is expected to edge up from 2.9% to 3.0%. Meanwhile In the UK, a 1.1% monthly increase in prices expected to see the annual UK inflation rate jump close to a whole percentage point to 3.3% amid higher utility prices (energy & water) typical at this time of year.

See our Weekly Calendar for more.