By Bernard Hickey
Reserve Bank Governor Alan Bollard has moved to try to talk down the New Zealand dollar and has criticized the US Federal Reserve’s money printing as ‘problematic’ for the global economy, but he rejected any suggestion New Zealand should move to control its currency or impose capital controls.
“Domestic rebalancing is proceeding, but pressures on the New Zealand dollar are not helping,” Bollard said.
Bollard also commented that the New Zealand dollar on a Trade Weighted Index (TWI) basis and wholesale interest rates had assumed a higher interest rate track from recent local economic data than the Reserve Bank saw as justified. The New Zealand dollar fell from 78.2 USc to 77.7 US cents.
The TWI has risen sharply in the last week to a multi-year high after financial markets saw stronger than expected employment figures last week as a sign of higher interest rates in future. The 2 year wholesale swap rate has risen from 3.79% to 4.1% in the last two weeks on the financial market speculation. See the interactive two year swaps rate chart below.
Later in the day, Bollard told the Finance and Expenditure Select Committee that he was watching the currency closely and could not rule out intervention, but that intervention recently in Switzerland and Japan had not been successful for any sustainable period given the forces driving currencies were coming from other bigger economies.
He said any suggestions that the New Zealand dollar would reach parity with the New Zealand dollar were extraordinary, but would attract the attention of the bank.
Bollard also acknowledged Prime Minister John Key had phoned him two weeks earlier to talk about the currency, but that he had not felt pressured. He said he believed Key had only phoned him twice in his time as Prime Minister. The phone call had been to pass on comments the Prime Minister had picked up at an East Asian summit.
Elsewhere, Deputy Governor Grant Spencer pointed out that if European debt markets blew up again it would make it more difficult for banks to raise short term wholesale funds offshore, although New Zealand banks were sometimes benefiting from demand from investors in Europe who wanted to invest outside of Europe.
Bollard made the comments as he released the Reserve Bank’s half yearly Financial Stability Report, which also warned that a softening housing market and falling farm prices could put indebted households and farms under “significant stress”.
The report also pointed out that funding markets for New Zealand’s banks remained somewhat fragile as international investors continue to question the sustainability of big budget deficits, particularly in Europe.
However, the Reserve Bank did point out that New Zealand banks had reduced their vulnerabilities to these international funding markets by increasing the amount of long term and local funding to well above the new 65% minimum regulated by the bank.
But it was Bollard’s comments on the currency and the US Federal Reserve’s Quantitative Easing, often referred to as money printing, that stood out. “Households and businesses are keeping spending low as they reduce debt,” Bollard said.
“Combined with improved export commodity prices, this is reducing New Zealand’s current account deficit and external indebtedness, both of which are positive for financial stability,” he said.
“However the New Zealand dollar remains relatively high, reflecting easy monetary conditions and weak economic activity in the major developed economies. If sustained, this will make the continued rebalancing of economic activity towards the tradeables sector difficult to achieve,” he said.
“Emerging Asia remains the main engine of global growth and this has been positive for New Zealand. Financial markets have become more stable since the European sovereign debt crisis earlier this year. But the widespread withdrawal of fiscal stimulus and debt reduction by consumers and businesses continue to pose risks to the global recovery,” he said.
“In the US new quantitative measures have been announced recently. These appear to be supporting risk asset markets, but they are also putting pressure on capital inflows and exchange rates in third country economies, which is problematic for international rebalancing.”
'But not much we can do'
However Bollard rejected suggestions New Zealand could intervene to protect its currency or impose capital controls. He cited the ineffectiveness of recent attempts of the Bank of Japan and the Swiss National Bank to stop their currencies from rising. He also dismissed the idea of a return to the gold standard.
He compared New Zealand to the grass being trampled by elephants in global currency markets.
Financial stability
Elsewhere, the Reserve Bank said banks’ non-performing loans now appeared to be stabilizing after rising steadily from mid-2007 and it expected to see improvement as the economic recovery continued into 2011.
“Risks to this outcome would arise if the current softness in house prices were to become accentuated or if agricultural export prices were to drop off their current high levels,” Deputy Governor Grant Spencer said.
Property market risks
The RBNZ said in the report that a further weakening in the recovery had the potential to generate further loan losses in the banking system.
“House sales have stalled for the past six months and there are signs of prices falling again. Were this to be accompanied by renewed weakness in the labour market, some mortgage borrowers would find themselves in a position of financial stress,” it said.
“Furthermore, the banking sector remains heavily exposed to developments in the agricultural sector. Strong increases in commodity prices over the past year have boosted the cash flow position of many farms,” it said.
“Nevertheless, agricultural land values have been falling and farm sales volumes are very low. Any material drop in commodity prices could expose relatively indebted farms in the sector to significant stress.”
The Reserve Bank said it generally supported the Basel III push to improve international standards for bank capital and liquidity, but that it reserved the right to make any changes for New Zealand conditions.
“Sluggish for some time”
The Reserve Bank noted the pressures on the global and New Zealand economies from the effects of attempted deleveraging by households, banks and some governments.
“Many developed economies are continuing to adjust to excess leverage on household, business and financial sector balance sheets built up prior to the financial crisis,” the RBNZ said.
“Growth in these countries is likely to remain sluggish for a significant period of time while efforts are made to restore balance sheets to healthier settings.”
“It is typical for consumption and investment to remain subdued for an extended period as households and businesses attempt to reduce debt in the face of lower wealth and lenders apply generally tighter lending standards while replenishing their capital buffers.”
Chinese and Aussie property prices
Also for the first time the Reserve Bank commented at length on the risk of a bust in the Chinese property market.
“Chinese property prices have shown spectacular growth over the past year, largely driven by growth in domestic lending. A slowdown in China could materially affect New Zealand, particularly if New Zealand export prices fall,” it said.
However, the RBNZ noted, recent policy actions in China appeared to have had some success in restraining growth. It also commented on Australian property prices in relation to the Australian economy and the strength of the banks there.
“On some measures, property prices in the region, including Australia, appear stretched, carrying the risk of a sharp correction and slowdown in economic growth.”
(Updated with video, Bollard comments on markets pushing up the NZ dollar and interest rates more than the RBNZ saw as justified; Interactive swaps chart; link to full Financial Stability Report. Bollard and )
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