Summary of key points:
- NZD/AUD cross-rate gyrations put in perspective
- The three medium-term drivers of the NZD/AUD rate
- Australia take the initiative on economic recovery - NZ devoid of a plan
NZD/AUD cross-rate gyrations put in perspective
Whilst the NZD/USD exchange rate settles into an increasingly narrowing trading range between 0.5900 and 0.6200, attention is turned to the other major currency risk New Zealand importers and exporters face.
The movements of the NZD/AUD cross-rate reflect and are a manifestation of the performance of one currency against the US dollar relative to the other. AUD outperformance over the NZD against the USD results in a lower NZD/AUD cross-rate and vice-versa.
The extraordinary wild swings of both currencies against the USD in late March when the world economy went into a Covid-19 lockdown, resulted in the NZD/AUD cross rate spiralling from 0.9300 to 0.9900 in a matter of days as the AUD tumbled at a much faster rate than the NZD.
The subsequent rapid recovery of the AUD, when the US Federal Reserve provided USD swap facilities to other central banks, reversed the direction of the NZD/AUD rate as the AUD powered all the way back up again. The cross-rate reversing engines dramatically from 0.9900 on 18 March to a low of 0.9230 last week. Since February, the AUD depreciated 11 cents from 0.6800 to a low of 0.5700 against the USD at the height of the currency panic on 20 March and has now recovered 8.5 cents (77%) back to 0.6550.
In contrast, the Kiwi dollar plummeted nine cents from 0.6400 to 0.5500 and has now recovered six cents to 0.6100 (66%).
The NZD/AUD cross-rate has tested both ends of its established trading range over the last two months, providing both danger as well as hedging opportunities to local AUD importers and exporters.
The signal for AUD importers to hedge future AUD payments at 0.9800 and 0.9900 in late March came from a predictable source. The inevitable pronouncement from local economists and financial market commentators that it was time to put the champagne on ice in preparation for the NZD/AUD “parity party”, was the prompter for the rate to go the other way!
The three medium-term drivers of the NZD/AUD rate
Whilst short-term market speculation and thus trading volatility have driven the massive swings in the NZD/AUD cross-rate in recent weeks, over the medium term the cross-rate will continue to be driven by the three prime determinants of relative value: -
- Commodity price differentials – Both currencies are accurately categorised as “commodity” currencies, with strong historical correlations to mining/metal commodity prices in Australia and dairy commodity prices in New Zealand. Chart 1 below indicates that the commodity price differential would have the NZD/USD cross-rate somewhat higher at 0.9800.
- Interest rate differentials – Whether the RBNZ was in or out of synch with the RBA on the timing of monetary policy changes, determined the interest rate gap between the two currencies. For many years, the interest rate differential was a very reliable forward indicator of the direction and value of the NZD/AUD cross-rate. As Chart 2 shows, over recent years with both interest rates reducing to historically very low levels, the correlation has broken down somewhat. The current interest rate differential points to a 0.9000 NZD/AUD cross-rate.
- Relative GDP growth performance - Over the last five years the New Zealand economy has generally out-performed the Australian economy on the growth leagues table. That outperformance justified and confirmed the shift in the NZD/AUD trading range from 0.8500/0.9000 previously to 0.9000 to 0.9600 (broadly) in recent years. Forecasts of economic growth for Australia and New Zealand over the next 12 months are nigh impossible currently, the only guide would be that Australia did not enforce the extreme Covid-19 lockdown under Level 4 that the NZ economy was hit with, therefore Australia is better positioned for an earlier and stronger economic recovery. Consumer and business confidence are recovering faster in Australia compared to New Zealand. Our stronger GDP growth performance has come to an end, suggesting a lower NZD/AUD cross-rate.
Australia take the initiative on economic recovery - NZ devoid of a plan
Looking forward, how the New Zealand economy (thus currency) performs vis-à-vis Australia will be determined by not only the three prime determinants described above, however also the economic policy decisions the respective Governments make to drive the recovery.
The Australians appear to be well ahead of us in initiative, purpose and organisation.
As the Chairman of the NZ Government’s Business Advisory Council, Fraser Whineray aptly stated last week, the Australians are “co-optimising” resources between government and business to push recovery and reform much better than New Zealand.
The Aussie government has business leaders actively participating in a Business Recovery Taskforce and a Reform Commission. The Australians have correctly recognised that the new world economic order is going to be a lot different and therefore Australia needs to change and cannot hope the “same old/same old” will produce economic growth and preserve jobs.
The Labour Coalition Government here shows no signs of engaging private sector business leaders in shaping our recovery plan and future economic policy settings. It is relatively easy to throw Government money (all borrowed) at the economy in a crisis and Finance Minister Grant Robertson has done that well over the last two months.
However, a different set of skills and attributes are required to grow the top-line in a disrupted world.
The disillusionment and frustration expressed by the Government’s business liaison man, Rob Fyfe, with progressing any form of cut-through in the Wellington bureaucracy is a sad testimony on New Zealand’s situation.
There is no plan for the future and there appears to be little recognition by the Ardern Government that you must get the best entrepreneurial and risk-taking business folk in the room to transform good ideas into bold action. The massive Government debt burden ahead of us can only be repaid and reduced by strong economic growth and higher tax revenue into the Government.
New Zealand needs to do things differently, or the previous “brain-drain” of young talent to Australia will recommence.
Australia will need to tread very carefully from here with its deteriorating relationship with China, however it stands to gain the most when China adds further fiscal and monetary stimulus to its economy.
In removing its GDP growth target for the next year, the Chinese authorities have admitted that their consumers are reluctant to spend, and unemployment is increasing in their economy. A major Government infrastructure build package cannot be far away in China, which should see a recovery in metal and mining commodity prices and further gains for the Aussie dollar.
*Roger J Kerr is Executive Chairman of Barrington Treasury Services NZ Limited. He has written commentaries on the NZ dollar since 1981.