By Bernard Hickey
This week our currency rose towards a three year high of almost 80 US cents.
On the face of it this is extraordinary. Our economy is on its knees. Our second largest city has been badly damaged. Our government is likely to borrow almost NZ$20 billion this year. Our sovereign credit rating could be downgraded within weeks and our big four banks face their own credit rating downgrade.
Yet our currency is back above where it was on February 22 and is near the highest levels it has been since the global financial crisis struck in September 2008.
There's three reasons for this. The first is worth celebrating. The second is also good news. The third is bad news for most and good for some. But all three have a deeply unsettling side effect that threatens to unravel the much promoted great transformation of our economy an export-led machine.
Firstly, New Zealand is experiencing an historic rise in the price of the commodities it sells. Reserve Bank Governor Alan Bollard spoke this week about this improvement in our terms of trade, which means we are able to buy more imports from the exports we sell. Currency traders and buyers of our exports are snapping up our currency in anticipation that record high prices for butter, meat, wool and logs will translate into demand for New Zealand dollars.
Secondly, New Zealand is receiving an unprecedented amount of foreign capital inflow in a short period of time. The government's budget deficit is blowing out because of the dip in the economy late last year, the earthquakes and the deficit-worsening results of the tax package. Almost two thirds of the government bonds issued to fund that deficit will be sold to foreigners, who will have to buy New Zealand dollars to do it.
The other reason for heavy capital inflows is an expected surge of NZ$15 billion worth of reinsurance payments from earthquake claims by both EQC and private insurers. Again, the reinsurers will have to buy New Zealand dollars to pay these bills. This influx of cash will help boost the economy next year, but also runs the risk of increasing inflation and interest rates.
Thirdly, our banks are back on the bandwagon borrowing offshore to lend into the mortgage market. ASB and Westpac are aggressively marketing loans of up to 95% to home buyers tempted by the recent dip in house prices and interest rates at record lows. Kiwibank cut its six month mortgage rate to a record low 5.4% this week and is also offering 95% home loans. The March 10 rate cut by the Reserve Bank has triggered a surge of activity in the housing market, particularly in Auckland.
Mortgage approvals valued at more than NZ$800 million a week over the last four weeks have driven the fastest mortgage growth in 18 months. That was reflected in house prices and volumes in Auckland in March, the REINZ reported this week.
Much of this mortgage money is being sucked in from the same old sources offshore, which is also increasing demand for the New Zealand dollar.
All this means many exporters not selling meat, wool, dairy and logs are really struggling, particularly if their markets are beyond Australia. Luckily for exporters to Australia, our currency is weak against the Aussie dollar, which is seeing its own commodity boom.
Our Dutch Disease
This surge in a country's currency after a 'windfall' rise in commodity exports or capital inflow is often referred to as 'Dutch Disease'. Holland discovered natural gas in the 1960s, which pushed up its currency and hammered its manufacturing sector.
If our government is serious about transforming this economy into an export powerhouse it must act to restrain the currency and the foreign borrowing. The Reserve Bank could and should intervene to push the currency down and could and should introduce controls on bank lending and bank funding. The government also needs to dramatically reduce its deficit and its borrowing.
But is this government really serious about transforming the economy?
Remember, voters like a high dollar because it keeps petrol prices down and Christmas presents cheap. Don't expect real leadership anytime soon.
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