The NZ dollar may have strengthened, but trying to weaken it wouldn't achieve as much as it would've before Covid smashed international tourism, argues banking consultant

The NZ dollar may have strengthened, but trying to weaken it wouldn't achieve as much as it would've before Covid smashed international tourism, argues banking consultant

There’s no need to fret over the New Zealand dollar strengthening against the US dollar, because with international tourism dead for now, the currency is having a smaller impact on the New Zealand economy than it did pre-Covid.

This is the view of Sean Keane - the founder and managing director of Triple T Consulting, who’s also a Jarden non-executive director and former Credit Suisse Asia-Pacific managing director.

Speaking to interest.co.nz, Keane said the Reserve Bank (RBNZ) was unlikely to intervene in the currency, because the economy is less sensitive to currency fluctuations that is was when borders were open.

While the RBNZ last week included foreign asset purchases in the list of monetary policy tools it said it wanted to be deployable in coming months, Keane didn’t think it would go down this path.

Rather, he believed the RBNZ would commit to buying more New Zealand Government Bonds under its Large-Scale Asset Purchase (LSAP), or quantitative easing, programme. It might also consider yield curve control, similar to what the Reserve Bank of Australia is doing.

The New Zealand dollar has risen to US65 cents, from a low of US56c in March.

“The currency’s not as important as it was, because our percentage of GDP [gross domestic product] that goes to exports has been reduced,” Keane said.

Before Covid-19 hit, international tourism accounted for 20% of New Zealand’s exports. In the year to March 2019, international tourism expenditure was $17.2 billion, meanwhile international student expenditure was $3.9 billion, dairy was $15.6 billion and meat and meat products were $7.6 billion.

Keane said: “If you’re making an argument that we need to weaken the currency to support growth and activity, you’ve got to talk in new terms about what you’re trying to achieve. Because it doesn’t matter whether the currency is 58 cents or 85 cents to the US dollar in terms of tourism income; we won’t get any. The currency is simply immaterial to that.

“It will matter for dairy and fruit and the other exports that we’re still managing to send to the rest of the world.”

Keane recognised the significance of these exports, but the noted it wasn’t peak milk selling season. He also said the country’s other exports are holding up well.

“[RBNZ Governor] Adrian Orr will keep talking about foreign currency asset purchases; he’ll keep talking about negative rates, but the likelihood of him doing them is relatively low,” Keane said.

“He’s using the power of his office and his position to encourage the market to think about these things, and then the market transmits that into pricing.”

Turning from the RBNZ’s job of overseeing monetary policy, to its job of ensuring financial stability, Keane said the situation was actually positive in terms of making the tens of billions of dollars of New Zealand Government Bonds being issued attractive to offshore investors.

While New Zealand’s credibility and creditworthiness make these bonds relatively attractive, Keane said investors would also rather invest in bonds issued in a currency that is either going to hold its value or appreciate.

If the currency starts to fall, foreign investors may be less inclined to hold New Zealand Government Bonds.

To date, the RBNZ has bought $18.1 billion of New Zealand Government Bonds and $929 million of Local Government Funding Agency bonds from these foreign investors as well as local bondholders, as a part of its LSAP programme.

It has committed to buying up to $60 billion by May, and is widely expected to increase this limit when it releases its next quarterly Monetary Policy Statement on August 12.

Keane said he didn’t believe the RBNZ would add corporate bonds to the programme.

“It’s difficult in New Zealand because our pool of corporate bonds is so small, and therefore the credit risk the RBNZ will end up taking is so concentrated. That hasn’t stopped other central banks doing it. But my sense is it’s not necessarily high on the list at the moment.

“A better way is to move towards some sort of securitisation programme of the mortgages with the big four banks - that would be a good way of clearing some balance sheet risk from the big four banks and for the RBNZ to directly impact mortgage pricing…

“The other thing is, what is it [buying corporate bonds] going to achieve? If they do that, what are the corporates whose bonds they’re buying going to do? Are they going to issue more debt and then use that for investment? Probably not.”

Looking at the bigger picture, Keane believed the RBNZ would rather be “over-easy” with monetary policy, than tighten too early.

“If they’re easy for too long and the economy picks up pace very quickly, then that’s a great outcome,” he said.

“But if they decide to rein back the easing early and they send us into a secondary decline, then that’s a big problem they’re going to struggle with.”

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29 Comments

Because that would be very unpatriotic ?

And here is the Money Shot:

“A better way is to move towards some sort of securitisation programme of the mortgages with the big four banks - that would be a good way of clearing some balance sheet risk from the big four banks and for the RBNZ to directly impact mortgage pricing…"

But none of that will create better quality borrowers. In fact, the opposite will happen.
What do we think The Banks will do when their balance sheets can be 'cleared of risk'? Become more prudent with their lending? Dream on....

Couple of points.

1, extremely unlikely the RBNZ would focus just on the big 4 and would almost certainly offer this to all banks (couldnt be seen to be helping out the Aussie banks)
2, it wouldnt truly clear the risk of the bank, nor should it. I am sure the RBNZ would insist on the bank retaining the lower rated, more leveraged tranches of the securitised deals to avoid any moral hazard issues with regards the banks lending practices.

That said, to your point, it is clear the RBNZ want to keep the credit multiplier going and need banks to keep lending. How they do that and perform non-conventional monetary policy whilst also prudently supervising the banks will be a challenge and we certainly looking at a heightened risk of a policy error.

Good points.
And given our last collective experience with Securitisation, the words 'it didn't end well' come to mind.

If the banks cannot behave as responsible adults we'll end up with central government lending to NZers all over again.

One point, what do you mean by "the credit multiplier"? Banks are not constrained by reserves, as loans create deposits ex-ante & banks then fix up any reserve requirements ex-post. All to say, banks will lend to as many credit-worthy borrowers as they can get, the problem is that no-one wants to take out a loan right now. The deficit-spender of last resort is the govt, i.e. coordinated fiscal+monetary policy is the only game left in town to get things moving.

Very pertinent. This is not like 2008 when it was the banking system itself that was in peril. This time it is the banks' customers. What will presumably happen is that the advertised low mortgage rates will only be available to a select few with high job security and large deposit. Mortgage rates for everyone else will rise or become unavailable. Loan to income ratios will come down, to provide a cushion to protect the bank against the borrower losing their job and against house price declines. Bigger deposits will be needed, so think 30%, not 20%.

Over easy is always the strategy. Keeps the voters happy and has no downsides (as long as CPI inflation is in check), while tightening will cause the loss of jobs and the dreaded deflationary spiral.

The dove Orr the hawk?
Depends on where you're standing.

Weak argument.

Aggregate national debt can't be serviced when external incomes collapse.

Can I ask for an explanation?
Collapsed external income implies a rising current account deficit, which can supposedly be financed by NZ domiciled asset sales to foreigners.

The government recently issued under syndication $7.00 billion 0.5%, 15/05/2024 Crown debt. Over subscriptions were more than double this amount and yet significant segments of our export market have collapsed due to border control restrictions.

I’m just going to throw this out there, but your questions are probably a bit hard for nearly everyone on this website - self included!

It's been pointed out, recently on this platform, that Kiwis generally have minimal financial knowledge - I am responding to JLM's abstruse declarations with some common and publicly disclosed facts. Hopefully, she/he can expand upon them, so we can all understand.

In case the restricted export details are incoherent, one can assume lower inward tourism expenditure and education payments to NZ learning institutes from foreign students.

Agree with your comments Audaxes. Offshore investors do not seem to be questioning the Governments ability to repay NZD debt... nor should they.

The NZD is largely where it was 6 months ago, yet investors seem willingly to invest in NZ bonds at lower yields.. despite the external income outlook.

Keen to hear JLM's thoughts

Everyone gets what they want.

Good luck.

Sorry Audaxes.. looks like JLM wont be explaining their comment after all.

Foreigners aren't holding anywhere near the balances of Govt stock they once did and this has been declining ever since our export prices weakened in 2014/15. % of total, government securities held by non-residents has nearly halved. It has accelerated this year as our export prices showed distruption.

Net external liabilities require servicing of debt, or financing via increased foreign liabilities, else the exchange rate falls until it becomes attractive to hold NZD securities, else until an export surplus appears, i.e a reduction in real import volumes (within the context of NZ).

Just because the bid/cover ratio is strong does not mean that it is offshore holders who are buying the debt. It can easily be local fin's that are holding the debt, which makes more sense given the lack of lending / the money market is awash with funds. Banks or corps will buy the debt if they do not have anywhere else to put the money.

The evidence and stats point to a reduced appetite for foreign holdings of debt with an acceleration of the trend recently. I personally do not think the bid/cover ratio provides much info to the context, and think it is an assumption to say the recent large issue was bought by foreigners, even though it was syndicated.

Overseas asset purchase not only provide a good investment but also slow the kiwi dollar rise.
RBNZ should consider buying overseas assets, and sell when kiwi dollar weakens.

Turning from the RBNZ’s job of overseeing monetary policy, to its job of ensuring financial stability, Keane said the situation was actually positive in terms of making the tens of billions of dollars of New Zealand Government Bonds being issued attractive to offshore investors.

While New Zealand’s credibility and creditworthiness make these bonds relatively attractive, Keane said investors would also rather invest in bonds issued in a currency that is either going to hold its value or appreciate.

This is a moot point. The NZ government has issued ~$15.43 billion coupon bearing securities in the 3mths ending 30 June 2020. The RBNZ has purchased $18.1 billion government bonds over the same period.

Banks exchanged market tradable fixed interest state debt for floating rate OCR state debt which has to be collectively held by them until the bonds are sold or redeemed.

History says there is a high probability the bonds purchased by the RBNZ will be redeemed - the average duration is not insignificant and raises the question why are these financial institutions taking this type of locked in risk? Higher interest rates reward them and could cost the government, lower rates penalise them. But they cannot get out prior to redemption, no matter what the currency does.

Re:
“History says there is a high probability the bonds purchased by the RBNZ will be redeemed - the average duration is not insignificant and raises the question why are these financial institutions taking this type of locked in risk? Higher interest rates reward them and could cost the government, lower rates penalise them. But they cannot get out prior to redemption, no matter what the currency does.”

Audaxes, isn’t it the case market players can trade these securities? They can exit as long as market is liquid. Yields will vary with market demand for govt bonds.

Not at all, banks are in receipt of RBNZ reserves in exchange for selling government bonds to it as participants in the LSAP programme. There is no outside (really inside) market for central bank reserves. And if one bank is willing to buy those reserves from another they still remain the same value on the RBNZ's balance sheet liability ledger, as I detailed. As do the purchased bonds on the RBNZ asset ledger.

Isn't this functionally monetary finance - RBNZ has (more than) bought the bonds issued by the Treasury's DMO? Also, how much of a liability are these reserves to the government in a regime of coordinated fiscal+monetary policy, where the RBNZ keeps the OCR below the interest rate on govt debt? Aren't they then just a technical liability (to the government) because they are essentially a tax credit (asset to the non-government sector) that can cancel any imposed government tax (the corresponding government asset which can be created to offset the government liability)? I am interested in your thoughts on this since you seem to have a good grasp on monetary dynamics yet you do not seem so keen on the MMT description of (consolidated) fiscal policy.

You are right. Get over it people. It's not rocket science. Notice no inflationary boom, no skyrocketing interest rates, not collapse in bid to cover ratios, no currency crisis...businesses still quite happy to accept your qe funded dollars the government has paid you to sustain your income. Mmt people. Mankiw won't provide the answers.

The source of transfer payments from government to the private sector have arisen because private sector bank depositors exchanged their savings for government bond savings. QE occurs after the fact, and is another exchange (swap) of bonds for central bank reserves. The RBNZ is hoping to reduce term interest rate structures in the hope banks will relax their lending criteria to the not so creditworthy masses. Evidence shows global banks' balance sheet growth rates tapered after 2008 and much QE. Low interest rates are associated with tight monetary conditions.

Also, how much of a liability are these reserves to the government in a regime of coordinated fiscal+monetary policy, where the RBNZ keeps the OCR below the interest rate on govt debt?

They are as much an interest cost liability to government as any term fixed interest bearing government debt with the added risk of an O/N floating interest rate component. If the OCR rises due to an inflation outbreak the government would end up paying out more and in receipt of interest if inflation collapses and the OCR is negative. I have no knowledge about the tax implications of these possible outcomes. Currently, the Government is paying 25bps on banks' central bank reserve claims.

Ok I agree with all this. But I don't think any of this presents any constraints to the consolidated government sector. Paying "interest on reserves" is a policy choice. The interest rate (yield) on DMO bonds is likewise a policy choice. The RBNZ has the power to control the entire yield curve if it wants to (e.g. Japan). And there is no default risk to paying interest on government liabilities as the government is a currency issuer - i.e. a creator of government liabilities / non-government assets. The other side of the picture is that the government is a tax issuer - i.e. a creator of government assets / non-government liabilities. So the government can always manage the amount of government liabilities/assets = non-government net (aggregated across the whole sector) assets/liabilities, through fiscal policy i.e. spending in currency and/or taxing it out. Would you agree, or do you see things differently - if so, how?

I have no comment to make - there are too many veils to pullback to understand the influence of government at any one time upon the nation.

The risk of default is essentially currency risk. The currency value can measured against other forms of money: eg, other currencies (which are all essentially virtual commodities); metals, precious or base; food; titles to land or buildings, including houses; shares in viable businesses. The cpi is just a controlled basket of real stuff, it's main purpose is to make inflation (ie currency risk) look like it is controllable by government decree. What has real value changes depending on the forces at play at the time.

Funny how NZD does opposite of what RBNZ wants. When they talk NZD down, NZD keeps ripping UP!!! Hmmm ...