The New Zealand dollar is 22% overvalued on a current account basis, according to the Institute of International Finance (IIF).
The Kiwi dollar, trading above US57 cents at the time of writing, should be below US45c, according to the IIF's calculations. (That's an example, without factoring in the IIF's view on the greenback, which is mentioned below).
The current account records a nation's transactions with the rest of the world, specifically its net trade in goods and services, its net earnings on cross-border investments, and its net transfer payments over a defined period, such as a year or a quarter.
According to Statistics NZ, NZ's annual current account deficit for the year ended June 30 was $27.8 billion, equivalent to 7.7% of gross domestic product (GDP). That was $16.3 billion wider than in the previous June year, when it was 3.4% of GDP. NZ's biggest annual current account deficit prior to the COVID-19 pandemic was $14.7 billion in the December 2008 year, which was 7.8% of GDP.
The IIF, which describes itself as the global association of the financial industry, highlights the NZ dollar in an update of its exchange rate fair values. Its approach is based on a cyclically adjusted estimate for the current account, compared to an equilibrium concept of where the current account can sustainably be.
"The exchange rate misalignments we derive are the moves in the trade-weighted real exchange rate that are needed to close this gap, which we calculate using standard export and import elasticities with respect to the exchange rate," the IIF report by its Managing Director and Chief Economist Robin Brooks, Economist Jonathan Fortun and Associate Research Analyst Jack Pingle, says.
"Usually, our focus in this exercise is on emerging markets, but Russia’s invasion of Ukraine has upended that. The war constitutes a large, adverse shock to the terms-of-trade for Europe, leading to unprecedented worsening in the current accounts of many countries. Although the euro and the British pound have already fallen substantially, we estimate that they will need to fall further in order to converge to their new fair values."
They note that Russia’s invasion of Ukraine has seen unprecedented US dollar strength with the bulk of that strength coming against currencies from Group of 10 (G10) economies such as the euro, yen and British pound, with emerging markets more resilient.
"The underlying driver of dollar strength against the G10 is the energy price shock, which has caused sharp deteriorations in European trade balances, including for the UK. Indeed, while Norway is reaping a large windfall from the rise in energy prices, the UK and New Zealand are seeing pronounced widening in their current account deficits," the IIF says.
It goes on to map these current account deficits into what they mean for exchange rate fair values. The IIF estimates NZ's current account deficit for 2202 with be equivalent to 8.7% of GDP.
The IIF says, based on its methods and calculations, the Kiwi dollar is 22.4% overvalued. It sees the Euro as 11.6% overvalued and the beleaguered pound as 18% overvalued, with the US dollar 4.2% overvalued.
The Aussie dollar, meanwhile, is viewed as 13% undervalued, with the yen 5.8% undervalued, the Norwegian krona 47.1% undervalued, and the Saudi Arabian riyal 23.5% undervalued.
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81 Comments
He could be right. If the US goes balls-to-the-wall and the swap rates are doing the work for him, then the only downside is NZD might tank. But if you can spin the imported inflation as unavoidable due to global events anyway then you don't have to be the bad guy anymore.
Check again on the relative performance of the NZD vs other currencies against the USD. It is down 8.5% over the past month (relative to where it was a month ago) while the USD is up 3.2%. Even the GBP which was down 11% at one stage recovered to -4.8% currently. The international community are looking sideways at the NZD currently and not liking what they see. Interest rate rises alone will not save the NZD from further falls but perhaps only cushion the move lower. Exporters have already filled their tanks and so don't expect huge performance gains from a lower currency while importers are likely to have held back waiting for a 0.6000+ bounce that has not arrived. More challenges ahead for the NZD
My view is that we kept on spending and importing through the pandemic, but our tourism and education sectors basically collapsed. Without an equivalent pullback in importing, this has ballooned the trade deficit and the balance of payments deficit. And not only did we not pull back on spending, we actually subsidised the importing of cars (NEVs) at an even faster rate. Of course the current account got much worse much faster.
But to be fair, we were already 'living beyond out means' before the pandemic. These deficits don't matter - until they matter to the foreigners who supply the capital flows that pay for it all. When the IIF calls us out, that means those foreign capital suppliers are starting to notice. If they stop financing these deficits, it will create serious hurt locally.
The FX rate is the mechanism that equalises this. A very sharply lower FX rate will be both inflationary and hurt local spending power sharply. A lower FX rate just makes us poorer relative to our peers - and a 45 USc rate will make us very much poorer.
A lower FX rate just makes us poorer relative to our peers
In more ways than you would think. NZ will become an even less attractive destination for skilled workers in salary and living cost terms, compared to other nations with higher pay and better-performing currencies.
In more ways than you would think. NZ will become an even less attractive destination for skilled workers in salary and living cost terms,
Of course. The high cost structures are still in place and were before Covid. People think that income growth will follow inflation. To some extent, yes. But it isn't the 1970s. Technology constrains income growth.
Both sectors together contributed less than $20b in exports back in 2019. Then we also need to factor in our tourism imports, i.e., Kiwis spending on overseas holidays, which was $6.2b in 2019.
The net export earnings from border crossing returning to 2019 levels could reduce our current account deficit by half at best.
Global tourism numbers are still at 57% compared to pre-pandemic levels and Fed pushing the global economy into a downturn will slow that recovery down even further.
The government is desperately declaring the spikes in border crossings as a sign of strong recovery but this could be pent-up demand on travel such as family reunification after over 2 years of lockdowns.
Then there is the issue of major worker shortages in the sector, which is an outcome of low wages and high living costs in popular tourism centres across NZ.
This problem will be aggravated by a dropping FX that brings more foreign cash chasing limited goods and services in those centres.
basically the biggest ever deficit was at the end of the last labour government ---- and now they have managed to match that again ---- you cant blame Covid for that its simply the result of massive mismanagement
Nobody expects Labour to have any competence managing the economy -- after all they never have -- but you do expect that as they empty the coffers , borrow large and create huge structural deficits and imbalances ... they at least address some of the social inequities - Sadly this particular group have failed spectacularly in this area as well -- huge increase in levels of equality - rich got way richer poor got way poorer! Homelessness increased, poverty increased, AOD increased Mental Health in an even bigger crisis - health system effectively dismantled -- and our Prisons are at such crisis staffing levels that people have not had visits in some cases for over a year
Sadly - perhaps the only thing they can do well, is be empathetic in the face of a death or disaster -- but managing what is looking like the largest financial crisis and possible breakdown in our financial systems -- better off asking for advice at the local Kindy
Likewise if you start building huge infrastructure projects you campaigned very specifically on doing too. So arguably a successful Labour Govt would have made this much worse, but the flipside is you'd be offsetting with later gains/fewer efficiency losses down the line.
So I guess the question is, having now probably spent that money anyway but on other stuff, do we have anything to show for it?
Alternatively, if you are worried about price increases, then you bring forward spending. If the rumours are correct, then more than $100,000,000 was spent on Tesla Model Ys in September. The GST on those was largely given back to buyers with $13,000,000 in clean car rebates.
Was that before or after Cullen paid through the nose for the grotesquely overvalued Kiwirail operations? Because I seem to recall him going on a spending spree once it became clear they were going to lose the 2008 election. There was a cash deficit in the 2008 Budget of about $3.5b.
Just a reminder, Cullen was the guy who was happy to have Kiwis paying 39 cents in the dollar on income over $60K for almost a decade (which later got increased to $70k) so I guess if you're insane to count someone earning $70,001 as 'rich' then sure, I guess?
And if you want to talk about what they spent money on during that time: They spent a huge amount on repaying core crown debt but almost nothing on infrastructure while the population in Auckland surged and house prices rose faster than they did under the following National goverment. The only thing that put a stop to it was the GFC.
I’m sure Nationals policy of tax cuts for the rich will fix them imbalance. I heard Nicola Willis on the radio this morning and she was using the same “attract up talent” argument for top rate tax cuts as Liz Truss. When you are following that playbook it won’t end well.
Not hiking tax by stealth by refusing to adjust tax brackets more than once a decade and pushing lower-income earners into the upper tax brackets through inflation-driven wage components is 'tax cuts for the rich'.
This is the dire standard of political debate in this country. Basic tax administration, which should be codified in legislation, is considered a political gimme 'for the rich'.
When you have minimum wage earners paying 30 cents in the additional dollar over $48K, like we're on track for in a few years time when the minimum wage gets up there, is that going to mean they're suddenly rich too?
It won't help the dollar at all. If anything it will lower the dollar as a 100bps rise is sure to cause a recession.
The RBNZ needs to worry about inflation and not currency. Sure currency creates one-off imported inflation, but not the recurring inflation that they should be worried about.
Most Currency markets work off a little bit more than Current Account Deficit (and this is quite a simplified view) - which as pointed out by IIF are distorted and for NZ the record CAD is driven by
1. Excess demand for imports - driven by a backlog in supply chains easing up this year - resulting in a lot of import arriving all at once, higher import prices notably oil/ petrol and a demand for building products- of which the demand is falling rapidly. It's unlikely future imports will be as high in subsequent quarters
2. Lower demand for NZ exports - notably borders being closed has meant less foreign visitors and a lower milk price between April- Aug- this also is reversing.
that said most currency exchange traders also look at debt and how much is foreign debt- NZ sits comfortably in this area with the lowest debt vs GDP in the OECD - at 21% - compared to Aus - 40%, UK 75% and the US 90%
All of this debt needs to be repaid (or at least the interest does) - this will act as a drag on current account deficits moving forward.
The key for any currency will be economic growth in both the short and medium term. Australia and New Zealand are probably the least likely economies to be hit by deep recessions - that doesnt mean they will avoid recession but its unlikely to be as hard a landing as some of the bigger economies.
ikimpaul,
lowest debt vs GDP in the OECD - at 15%. Where did you get that figure from. It's not even close. The ratio for the year to end June '21 was 30.10%(Trading Economics). As at April '22, it was 33.50%.(The Treasury). For Australia, the ratio was 48% in June '21(www.ceicdata.com). For the UK, it was 99.60% as at March.'22(Office of National Statistics))
The classic rock and hard place. Only Iceland took steps post the GFC to cut out the bank driven debt ponzis that drive the world's quasi growth. Now the policeman 'inflation', has said enough... you want to borrow money, you need to pay for the privilege.... and here endeth the stupidity of the last 20 years. All the money you made off free debt... well it ain't worth much, and soon to be worth less... The only way out is a debt jubilee,, and we just don't have the leadership for that, other than perhaps China and Russia.
Well expressed Sir. All the credit creation for non-GDP qualifying purposes (primarily the bubble) looked like an elixir where everybody wins - the govt, the banks, and the sheeple. Let's be real. The GFC never really ended. Some countries took their medicine and changed their behavior (Iceland being one) while others such as Ireland sobered up a little. End of the world Nu' Zillun carried out like nothing happened and even doubled down on the fantasy.
Yip. Back to reality. Hopefully the era of asset bubbles is over for a bit.
In a world of climate change, kids in poverty and growing dictatorships i am not sure making role models of real estate agents and bankers is really good for humanity.
Come on world and nz leaders lets see some real leadership.. leave a legacy for something that matters. Orient our economy to something productive, exciting, innovative that generates real long term wealth. Something we can be proud of.
NZ / JPY dropped up to 50% in the GFC in a relatively short perid of time. As dramatic as the ol' rat poision. Times were simply back then and the carry trade (borrow in JPY and speculate on risk currencies such as NZD and AUD) was all the rage. David's explanation of the current situation in the comments is superb.
Of course because they're all sucking on the government-funding teet and doing as they're told instead of reporting what needs to be reported so the average Kiwi can make preparations for what is coming. I feel resultingly there will sadly be some deer in the headlights when the economic proverbial hits the fan.
I thought currency rates were set by capital flows, not export/imports? Are they using a model based on what should happen under a gold standard?
My understanding is that the money system is based on the expansion of credit worldwide, when USD interest rates are low, to contraction/panic as USD interest rates rise above a certain point. They are the basis of the global debt pyramid.
All currencies function as a derivative of the USD. When the central bank priesthood see fit they bugger the price signal of interest rates by pushing rates below the natural rate. This causes malinvestment in what would otherwise be profitless enterprises.
The natural rate is the point at where the money is invested either in profitable enterprises or in interest paying securities, whichever is appopriate. Individuals are constantly testing their hypotheses about which is best, but it is a balanced homeostatic system.
Once the central banks bugger the system up, they set up runaway feedback dynamics whereby investment becomes wild speculation and gambling followed by chaos, shortage and destruction.
We have been in a massive credit expansion over the last 30 years so most assets are overvalued.
Just read Mark Spitznagel's "The Dao of Capital", so the stuff is fresh in my mind. It is an excellent book, going from Austrian Economics through to how he invests. Not light reading, but clarified a few things, putting a theory to my own observations.
Thanks for the encouragement. I stopped posting for a while there as cruel Covid fascist tendencies swept the land. No one wanted an alternative viewpoint.
How long will it take for everyone to realise it was a power grab based on a global scam? As they say, if you're going to tell a lie, tell a big lie. This just passed my desk:
https://www.conservativewoman.co.uk/vaccination-increases-infection-ris…
Well 22% is kind of mild considering that housing remains stubbornly around 40% overvalued despite the weak correction so far. It's really hard to determine at this point whether kiwi property investors are truly enlightened or heading for a colossal spanking. Hopefully the latter, but only time will tell.
Carlos... or whatever your name is.
Worth is not related in any way with cost.
Would you live without water, air? what is the worth of those things for you?
Scarcity (artificial or otherwise) make things expensive, not worth.
Would you accept air to be expensive?
Expensive housing is criminal, full stop. Whoever think otherwise is a bad person.
Nope Carlos.
Your house costs what someone else is prepared to pay for it,
Worth is another thing.
As said, think of air and water, a good partner in life, children, youth, wisdom.
The best place we can dream to be is the one where whorty things are also cheap, available to everybody, that is a good society.
There is a difference between worth and price. I think lately, what people pay for houses is often more than they think the house is worth, but they pay more because the price is dictated by what the seller is willing to sell for (often market/fomo-driven). For those that over-leverage themselves, they may find out that the price they paid wasn’t worth the cost (ie due to increased rates). Whereas someone who holds onto the property for long enough to see gains may think the price they paid was worth it.
The article refers to one dial in the cockpit. There are hundreds of dials & screens in the cockpit & all are needed to fly the plane. The RBA publishes 146 graphs etc each month. It took me all afternoon to go through them & I was probably none-the-wiser for the experience.
Remember food is our underwriter in NZ. Labour is trying to kill it (along with everything else) but food exports in particular underpin a lot of how the ROTW sees/views NZ. I subscribed to the FT last week & have been bombarded with anti-Kwarteng & Truss pieces & all their shortcomings, according to the press. The reality is the world is in conflict, countries are in conflict, families are in conflict & leadership is failing pretty much everywhere across the western world (& has been for some time). But note, it is in even worse condition in many other places. Relatively speaking we're doing okay, but the US is still pulling the strings, which I read as a good thing, even though they're sucking money out of the global system at a rate of knots not seen for a while, but which wont last forever either.
Our biggest problem is our communist govt trying to destroy everything we've worked hard for over the past 200 years. Have we been perfect? No. But we still have one of the best cultures in which to live & grow when compared to most (3 out of 4 countries) on the planet. We don't hear much about the other 150 nations but many are not very nice places, believe me, I've been to some of them.
Don't panic. ''Keep calm & carry on'' Her Majesty would recommend & that is what we need to do. Things happen & things will change. If we can stop the silly people in charge trying to make things worse & more expensive then that would help. We have a very important moment in our history coming up in 2023 & we need to think very carefully about where we want to go from here.
I think WJ is taking a wider view than just the economic.
If we do not wake up to the fact successive governments are taking us down a track of apartheid - with separate schools, hospitals, government departments and preferential treatment based on race THEN WE ARE IN SERIOUS TROUBLE. Have no doubt, this is a power grab by the self-serving political elite and nothing more (under the guise of righting supposed wrongs that will never be ‘righted’ as to admit such, would put end to their narrative/political power)
Thanks for that Mr John. The West is indeed in very gangrenous hands. The FT and Telegraph have been co-opted to say what they are told to and suppress alternatives on key subjects; including monetary policy, tax policy, health policy, and above all else, war policy. I still find the UK press far less offensive than the WSJ and NYT, who are utterly disgusting.
The problem seems to be that we are only presented with a carefully curated set of options. So, in the UK, a remainer conservative government and a totally remainer civil service is acceptable. A warmongering PM is essential. Cutting taxes is allowed but reforming the civil service is impossible.
I was deeply shocked by the outright fascism of the COVID response, supported entirely across the political spectrum and wholeheartedly by our civil service (since it puts god like power in their hands).
The ideas were dressed up in nice sound bites but they lead to very dark places. It turns out that the doctors were the chief legitimisers of the Nazi Party in Germany, with the most support of any profession. Here is a random search result, there is a lot of literature on the subject:
Why did so many German doctors join the Nazi Party early?
https://pubmed.ncbi.nlm.nih.gov/23040706/
Wont matter and wont stop the Fed doing what its going to do... Its already clearly indicated its strategy... pointless pretending the Fed doesnt have the intestinal fortitude to follow thru on what its started 'tightening'. Problem we now face here is, will a 50bps hike cut it? Because even if the Fed goes 50bps ?
The forces at work are far bigger than the Central Banks or any government can control. Their supposed competence is an illusion, based on deluded ideas, false assumptions and obfuscation. They can do things that desperately try to make it look like they are capable and competent. They have largely created the current imbalances and their actions are making things worse. As Von Mises put it, if someone has been run over, it doesn't help to reverse back over them.
“Our dollar is 22% overvalued, the Institute of International Finance says.”
Thanks Gareth. Great article. Great graph.
NZ is living well beyond it means. $27 billion trade deficit or $5k per person for the year.
The fall in NZD is likely to continue to decline because global confidence in NZ economy is rapidly falling. The IIF graph exacerbates that perception.
The NZ government’s excessive money printing & wasteful spending is the main cause “living beyond our means”.
In business that is called “recklessness” as it is all borrowed & needs to be paid back.
The Economist Big Mac index shows the NZ$ is under valued by 14% as at July 2022.
Perhaps the IIF models of international trade begin to break down for agricultural trade which is subject to so many quota and other restrictions. Volumes of these commodities do not increase with a lower exchange rate.
What we need is a high TW!
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