Roger J Kerr says the RBNZ will be confused and frustrated its 'surprise attack' on the markets has had minimal impact on the currency

By Roger J Kerr

It was expected that the NZ dollar would depreciate back to the 0.6500 area against the USD on the RBNZ delivering a dovish monetary policy statement last week, as the RBNZ could not do anything else but jawbone the currency lower to get inflation rising again.

That prior expectation was a long way off the mark.

The RBNZ surprised everyone with another 0.25% cut on the OCR.

The Kiwi dollar reacted in the forex markets as could have been expected, tumbling from 0.6800 prior to the statement to a low of 0.6625. However, three days later the NZD/USD rate has recovered strongly to trade back up to 0.6730.

The resilience of the Kiwi dollar in the mid-0.6000’s region has again been demonstrated. It has weathered a surprise cut in the OCR to 2.25% and does not look like a currency that has problems that would cause further major depreciation.

The RBNZ will be confused and frustrated that their surprise attack on the markets has had minimal impact on the currency. Their primary objective in cutting the OCR much earlier than generally expected would have been to drive the NZ dollar lower as they need price increases on imported goods to get the annual inflation rate back up to between 1% and 3%.

The RBNZ’s ambush on the Kiwi dollar has not worked for three reasons:-

  • FX markets are more focused on other forces than just interest rate differentials. An OCR at 2.25% or 2.00% still places New Zealand with an attractive yield return (same as Australia) compared to Europe and Japan.
  • The NZ economy in expanding at an annual growth rate near to 3.00% and thus continues to outperform most others. It is not an economy that needs a lower currency value to engineer growth.
  • As has been often stated in this commentary over recent months, the offshore hedge funds, traders and speculators are not playing in the NZ dollar any more as the volatile equity markets at the start of the year caused such investors to reduce market risk positions.

The FX market participants who immediately dumped the Kiwi dollar on the RBNZ surprise cut, were very quickly forced to buy back their short-sold positions as the follow-through selling to take it lower did not eventuate.

The RBNZ have therefore, not so far, seen the benefits of their surprise action.

Time will tell if the risks around reducing NZ interest rates further come back to haunt them.

If the banks lower mortgage lending rates and the residential property boom is stoked up further, the economic fall-out from the bubble bursting badly could be blamed back on the perpetrators (the RBNZ). However, the sharp increases in bank borrowing margins in wholesale debt markets over recent months may mean that there is minimal pass-through from the OCR cut to lending interest rates.

Local exporting companies selling into the Australian market in Aussie dollars are thanking RBNZ Governor Graeme Wheeler for the overt monetary policy changes. The NZD/AUD cross-rate dived from rates above 0.9100 last week to lows of 0.8860 as the Kiwi depreciated against the USD, whereas the AUD made gains on the back of higher metal commodity prices.

Most AUD exporters had FX orders placed in the market to transact hedging contracts. Patience has paid off those managing this NZD/AUD currency risk as many companies were holding back from any hedging when the cross-rate was in the 0.9300/0.9400 region just a few short weeks ago. The depreciation in the NZD against the AUD to 0.8900 brings the rate back in line with what the interest rate differentials have been pointing to for several months now. Yet again, the differential between New Zealand and Australia’s two-year interest rates has proven to be a very reliable and accurate lead-indicator for the NZD/AUD cross-rate.

ECB head Mario Draghi last week appears to have suffered from the same mistake RBNZ Governor Wheeler made last December. In reducing interest rates and then projecting that further cuts are unlikely, both men sent their respective currencies higher rather than the desired depreciation. The Euro appreciation to $1.1140 against the USD does not look sustainable however as the Draghi comment may have been misinterpreted and US economic data still points to further US interest rate increases around mid-year.

The RBNZ has a forecast of the New Zealand Trade Weighted Index (TWI) decreasing to the 69.00 area in 2017 and 2018. The modest 4% depreciation from the current TWI level of 71.80 over that time period is not a large change which leaves the NZD/USD rate in the mid 0.6000’s area. At 0.6500 the NZD/USD exchange rate is neither overvalued nor undervalued. An eventual recovery in Wholemilk Powder prices to above US$2,500/MT would place the Kiwi dollar closer to 0.7000 than 0.6000 in the medium term.

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Roger J Kerr is a partner at PwC. He specialises in fixed interest securities and is a commentator on economics and markets. More commentary and useful information on fixed interest investing can be found at rogeradvice.com

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7 Comments

At least it will underpin house and share prices...

Its time to point out that the Emperor Dr Wheeler is wearing no clothes , he is fooling no one and I am sure he is not fooling himself either .

When is the RBNZ going to admit we are in a cycle of PRODUCER PRICE DEFLATION?

All PRODUCER inputs ( oil, diesel, commodities such as coal and iron ore , milk solids and bulk food, Asian labour rates, timber, plastic , glass , aluminium, ) have fallen and are falling , and this will ensure we don't have an inflation problem anytime soon .

The RBNZ is farting in a thunderstorm tinkering with rates to weaken the currency and thereby try to stimulate INFLATION through import price increases

The Euro appreciation to $1.1140 against the USD does not look sustainable however as the Draghi comment may have been misinterpreted and US economic data still points to further US interest rate increases around mid-year.

Maybe. The Treasury 2s10s spread has fallen below 100 from 121 at the beginning of the year. Hardly a vote of confidence for forward rate hike projections.

Roger the NZD is going to cycle down to 40USD . You have the mistaken belief that hedge funds are not circling .'They failed to take your advice', do pink shirts and narcissism go together.

do pink shirts and narcissism go together

LOL, I used to wear Pink shirts all the time in London. I remember when this Irish hunt tailor opened his first London shop.

Roger don't panic mate , the Kiwi $ is going to fall , but only when the currency traders find a currency with better fundamentals than our ours, which is hard to d right now .

Have just recently been overseas , you realise the world economy is a mess , emerging currencies like BRICS are being downgraded , commodity currencies like Canada and Australia are in trouble, the Euro is a shambles and the Pound is only marginally better , the US is so big and confusing with positive and negative data coming out in tandem every day is impossible to make a case either way.

New Zealand Inc is facing some real challenges and as soon as there is a chink in our armour the hedge funds with be onto us like vultures

If anyone is 'confused and frustrated' right now, it should be dear old Roger Kerr. Once again,according to him inflation is just round the corner and we are going to see a veritable tsunami of higher retail prices. This will rapidly push inflation back to the RBNZ target of 2%. Yea Right Roger,though I would welcome such a result.
Just look around the world and where is inflation? despite all the interest rate cuts,now in negative territory in the EU,Switzerland and Japan and huge volumes of QE, it refuses to emerge from its lair and there are good reasons for that.