By Roger J Kerr

There was no great reaction by the local forex markets to New Zealand's current account and GDP figures for the December quarter released last week. The data was historical and very much in line with prior forecasts.

Most of the $16 billion current account deficit is permanent and structural, but exports outweighing imports over the coming 12 months should reduce the trade deficit component.

GDP contracted 0.9% in the December quarter and consensus forecast are for two further negative quarters in the first half of 2009 before we see a return to positive growth.

The NZD FX market has already priced-in this expected economic performance.

Rising oil and commodity prices over recent weeks have also assisted the NZD and AUD upwards. It now appears that oil and other hard/soft commodity prices dived too far in 2008 and prices are now finding a more realistic level on the demand/supply equations.

Global consumer demand levels will still play a major role in determining commodity prices, thus the New Zealand economy's (and currency's) fortunes. However, what is emerging is that the plummeting demand in the final months of 2008 has run out of steam.

The NZD currency value still faces some challenges ahead, particularly in respect to the Government's May budget and whether the credit rating agencies are convinced enough has been done to control future year's internal budget deficits.

However the strongest supporter of the kiwi's future value has to be the sea-change that has taken place in the local interest rate market over recent weeks.

The moneymarkets are no longer pricing-in further aggressive cuts to the OCR and term swap rates have reversed up sharply.

One-sided demand to fix interest rates from both households and corporates in a very illiquid inter-bank swaps market has caused the shift upwards in term interest rates.

There were also rumours in the market last week of renewed Japanese investor interest in the higher yielding NZD. NZD buying demand from this source is not expected to materialise into anything significant, uridashi and euro-kiwi bonds maturing of recent months have only been 50% replaced by new issues.

The NZD has made reasonable gains against the weaker GBP, EUR and JPY. Further gains can be expected as the world sees New Zealand further ahead in the time-cycle to economic recovery and ultimately our interest rates rising ahead of other nations.

Interest rate differentials and expectations about the future gap has lifted the NZD/AUD cross rate from below 0.8000 to above 0.8200. A return to back below 0.8000 appears unlikely.

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* Roger J Kerr runs Asia Pacific Risk Management. 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