By Danica Hampton

The NZD/USD skidded lower on Friday night, falling from above 0.6400 to around 0.6260.

NZD/USD burst above 0.6400 following a mixed US nonfarm payrolls report. The number of US jobs fell just 345,000 in May (better than the 520,000 forecast), but the unemployment rate rose to 9.4% (worse than the 9.2% forecast).

However, the USD's fortunes quickly reversed after comments from various Fed officials led investors to think the FOMC is close to removing monetary stimulus. Market pricing is now consistent with the Fed raising the cash rate 25bps to 0.50% by December and a sharp sell-off in US 2-year government bond yields (which rose 33bps to 1.29% on Friday) triggered a sharp rebound in the USD.

The sharply stronger USD quickly flowed through into NZD/USD weakness. Real money accounts were noted sellers of both NZD and AUD. Before long, NZD/USD had been knocked down to around 0.6260.

Looking ahead, we expect the NZD/USD to remain under pressure this week. We suspect the USD recover has further to run in the near-term (we'll be keeping an eye on US 2-year yields for a gauge on how far the USD recovery can extend), and this week's RBNZ meeting is unlikely to be currency supportive.

While Thursday's Monetary Policy Statement has become touch-and-go (whether or not they'll cut 25bps), even if the RBNZ pauses this week it is unlikely to be the end of the easing cycle. Furthermore, while there has been some positive news, we expect the RBNZ to reiterate its expectation of no OCR hikes for at least the next twelve months. In terms of the economic forecasts, the boisterous recovery projected in the March MPS will likely be toned down in this week's MPS. And the higher than anticipated currency will likely depress inflation and spoil the improvement in the current account deficit.

The USD strengthened sharply against the major currencies on Friday night. EUR/USD fell more than 3 cents from above 1.4250 to below 1.3950, while the USD Index gained 1.7% climbing from 79.20 to around 80.80.

Friday's US non-farm payrolls provided conflicting information. On the one hand, non-farm payrolls fell just 345,000 jobs in May, substantially less than the 520,000 forecast by analysts. However, the unemployment rate sky-rocketed to 9.4% - its highest level since 1983. In essence, the data confirms that the economic outlook for the US remains uncertain, despite the recent signs of improvement.

Nonetheless, comments from Fed officials led investors to think the worst of the US recession may be over and that the FOMC may start removing monetary stimulus.

Money markets are now consistent with the Fed raising the cash rate 25bps to 0.50% by December. The sharp sell-off in US 2-year government bond yields (which rose 33bps to 1.29% on Friday) helped underpin the USD.

San Francisco Fed President Yellen said the recent rise in government bond rates may reflect "disconcerting" inflation concerns. Atlanta Fed President Lockhart said the Fed needs to be "anticipatory" and not wait too long to tighten monetary policy. Earlier in the week, Fed Chairman Bernanke said the worries about sky-rocketing US government debt appeared to have pushed up longer dated yields and getting budget deficits under control was an economic necessity.

The USD has fallen heavily over the past few weeks amid concern about the burgeoning US fiscal deficit and increasing concern that offshore investors have a dwindling appetite for longer dated USD denominated bonds. Friday night's sell-off in the US 10-year government bond (it rose 12bps to 3.89%) could have been the perfect opportunity for the USD to resume its downward slide. However, the fact that the USD Index got nowhere near key support in the 78.00 region and actually rebounded sharply suggests the USD recovery probably has further to run in the near-term. We'll been keeping an eye on US 2-year bond yields for a guide to how far the USD recovery can extend.

There is little on the global economic calendar this week. The Fed's Beige Book will provide an anecdotal report on the US economy, while across the Atlantic the highlights will likely be the ECB's monthly report (Thursday) and Eurozone industrial production (Friday).

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* Danica Hampton is BNZ's Currency Strategist. All of the research produced by the BNZ Capital team of economists is available here.