New Zealand Says Sizable QE Was Necessary, Won’t Impede Market Function

(Bloomberg) -- New Zealand’s central bank said it was necessary to respond to the economic crisis with a sizable bond-purchase program and it doesn’t believe the scale of its intervention will disrupt market functioning.

The Reserve Bank made its first foray into so-called quantitative easing Wednesday with the purchase of NZ$250 million of government bonds in the secondary market. While the leap to QE was widely expected to help New Zealand’s economy through a looming recession, the enormity of the NZ$30 billion ($17 billion) program took many by surprise.

The bank is setting out to purchase almost half of all nominal bonds currently outstanding over the next 12 months, which some commentators say could distort market pricing. Bloomberg News put that question to the RBNZ. Here are its written responses.

The RBNZ agreed that the program represents “just under half of all nominal bonds outstanding as at the end of February.”

“This is slightly larger than sovereign bond-buying programs carried out by other central banks, which have ranged between 20% and 44%,” the bank said, adding this partly reflects the relatively small size of New Zealand’s debt capital market.

“The Bank believes that this level of purchases will not impede market functioning. That said, the Bank will be monitoring the efficiency and efficacy of its program, and will be in close contact with the NZ Debt Management to ensure our purchases do not impede market functioning.”

Commenting more broadly on the size of its program, the RBNZ said: “The size and scale of the program indicates the increasing severity of the economic situation and deterioration in financial market conditions. Given that our scenarios indicated that significant support is needed, it was decided that the appropriate response was to get approval for a sizable figure, rather than seek smaller amounts and keep going back to the Monetary Policy Committee for permission if more was required.”

The RBNZ successfully purchased the intended amount of bonds in its first QE auction today. Another NZ$250 million auction will be held Friday. The central bank will then seek to buy about NZ$750 million a week over the next 12 months.

When the RBNZ announced its program on March 23, it had an immediate impact, with bond yields dropping across the curve.

‘Held Ransom’

“The risk is the central bank placates the market for the near term only to distort market pricing in the future -- and then you’re held ransom when it’s time to exit,” Vishnu Varathan, head of economics and strategy at Mizuho Bank Ltd. in Singapore, said after the program was unveiled. “There’s no easy way to wriggle out of this when the purchases are so large as a proportion of the market.”

The size of the bond market will grow as New Zealand’s government issues more debt to fund its fiscal rescue packages. Finance Minister Grant Robertson has expressed confidence that there will be offshore demand for the bonds.

“We’re regarded as, effectively, a good credit risk so we’re in a good, strong position to keep borrowing,” Robertson told TVNZ this morning.

About 50% of government bonds are owned by foreign investors.

In times of stress, investors have a bias toward their home markets or to nations which, unlike New Zealand, run current account surpluses, said Mark Brown, Head of Fixed Income at Harbour Asset Management in Wellington. However, the RBNZ’s aggressive QE program will help to give them confidence to continue to invest in New Zealand because they know the central bank will be in the market, he said.

“The RBNZ has stepped forward quickly and in size, which is very credible,” Brown said. “Credibility is what the market will judge on and New Zealand should pass satisfactorily on that.”

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