The Reserve Bank of New Zealand (RBNZ) decided to increase interest rates by 0.25% in this month’s monetary policy statement. Governor Stephen Poloz mentioned that future policy changes will depend on economic data but he emphasized that inflationary pressures are likely to stay strong for the next couple of years. This suggests that the New Zealand central bank will be maintaining its hawkish bias and would be willing to hike rates again in order to keep inflation contained.

NZD/JPY staged a strong rally right after the announcement as bulls were pleased to hear that the RBNZ is staying upbeat on the economy. The rate hike was expected by many but the inflation outlook took some by surprise. The 4-hour chart shows that the pair has successfully bounced off support around the 87.50 minor psychological level and may be on its way to test the previous highs near 90.00.

On the other hand, Japan is facing a downbeat economic outlook as the recently implemented sales tax hike threatens to weigh on consumer spending and overall economic growth. Take note though that a Japanese news source mentioned that the government is considering loosening lending restrictions in the country in order to give small businesses easier access to funding, possibly an effort to make up for the slack to be caused by the sales tax increase.

As expected, the RBNZ also tried to talk down the New Zealand dollar, citing that the overvalued currency might wind up hurting exports and inflation. However, this didn’t trigger much of a reaction since this statement has been repeated over and over since the past few rate statements.

In the unlikely event of a downside break from the 87.50 area of interest, which could be spurred by a significant run in risk aversion, NZD/JPY could make its way back down to the next visible support zone around 86.00. A break below this level could push it down to 84.00 then to the previous lows around 81.50.

Meanwhile, support from upbeat economic data from New Zealand could even lead NZD/JPY to make new highs past 90.00. At this point though, the RBNZ might start to jawbone again and attempt to trigger a deprecation for the Kiwi. After all, further gains in their currency could make exports more expensive in the international market and thereby weaken demand.

Prepared by Aayush Jindal, Chief Technical Strategist at Capital Trust Markets

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