By Roger J Kerr
As the NZD/USD exchange rate trades into an ever converging and tighter range around 0.8200 it is inevitable that something will soon give way that breaks the shackles.
Exactly what the catalyst will be is hard to fathom, local economic events/trends are not influencing the currency value day-to-day and global market and economic developments are certainly not extreme at this point in time to cause too much currency market volatility.
The previous “risk-on/risk-off” investor market environment that caused so much price volatility in the Kiwi dollar earlier this year has settled with European concerns reducing and the Americans currently pre-occupied with their Presidential election.
The one international factor that could have shocked the NZD and AUD lower against the USD was a continuation of a rapid slowdown in the Chinese economy and thus falling commodity prices.
The latest economic data from China suggests that the slowing over the first half of 2012 has now evened out with their Performance of Manufacturing index moving back up again over recent months.
Anecdotal evidence still points towards large inventory levels of coal, iron ore and other commodities being held in China, however the CRB commodities index has stabilised just above 300 over recent weeks.
Oil prices are often a good lead indicator for global demand and general commodity prices and oil prices trending down currently suggests the markets see weaker global demand as GDP growth rates are trimmed.
Locally, the centre of attention has been the first-up performance of the new RBNZ Governor Graeme Wheeler with the OCR review last week.
Those expecting the new Governor to meekly follow the moneymarket pricing of an OCR cut, calls from opposition politicians to cut the OCR to pull the NZ dollar down and the ill-informed lobbying from some business groups for the RBNZ to “do something about” the high NZD value, would have been disappointed.
The new Governor is clearly his own man and quite rightly pointed out in a subsequent inaugural speech on Friday 26 October that the NZ dollar will move lower when New Zealanders save more and become less reliant on foreign capital inflows to fund our shortfalls.
One way we can save more as a nation is by the Government reducing its fiscal deficits, thus lower new Government debt issuance and therefore in turn lower levels of NZD buying by Asian sovereign wealth funds to buy NZ Government Bonds.
The upwards pressure on the NZ dollar will reduce when the investment inflows decrease.
The new Governor has stated the simple and stark reality that there are no free lunches to generate a lower exchange rate level to just assist one part of the economy, manufacturing exporters.
The observable reality from the markets this year is that the rising NZD value and rising NZ sharemarket values are both a reflection of foreign investors seeing our economy performing to a higher level and producing superior returns to other poorly performing economies at this time.
While the new Governor has made a favourable impression with his considered and realistic helicopter economic overview, it was something of a baptism of fire in respect to how the foreign exchange market reacted to the “no change” OCR decision last Thursday.
Clearly the NZD forex market went into the OCR short sold the Kiwi dollar in expectation of an OCR cut. An interest rate decrease was never likely; perhaps the FX speculators were listening to a poorly informed media in this respect.
Therefore, when the RBNZ left the interest rate unchanged the punters had to buy their Kiwi dollars back, forcing the NZD/USD up one cent to 0.8250 in the foreign exchange market. A rising Kiwi would not have been what Governor Wheeler would have been anticipating as the financial market’s response to a bland and “steady as she goes” OCR review statement.
However, part of the art of effective monetary policy management is that the RBNZ should know in advance how the markets will react to their words.
The Statement was not as “dovish” as anticipated by large sections of the market; however any hint to lowering of interest rates was not warranted given the already stronger residential property market on the back of record low mortgage interest rates. The inflation rate may be low right now due to special circumstances; however Graeme Wheeler is correctly focussed on the economy and inflation risks in 12 to 18 months time as he needs to be.
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Weaker economic data out of Australia has been expected following the double whammy shock to their resources and mining sectors took in July/August from falling commodity prices and a rising AUD currency value. The weaker economic numbers have yet to eventuate with their CPI inflation number being above market expectations due to the carbon tax impacts.
Terms of trade export price data this week may provide some impetus for a lower AUD against the USD. Retail and jobs numbers are forecast to weaken over coming months as Aussie domestic businesses and consumers understand what lower hard commodity prices mean for the wider economy.
The Australian moneymarkets are still pricing-in a further 0.65% of interest rate reductions; however that is down on the 0.90% priced-in a week ago.
The pressure will remain on the RBA to cut their OCR when they next report on Tuesday 6 November (Melbourne Cup day). The inflation result was in line with RBA forecasts; therefore that outcome will not change their view.
A lower AUD to below its $1.0200 support area against the USD still stands as the key factor that will drive the NZD/USD rate to below 0.8000 over coming weeks.
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* Roger J Kerr is a partner at PwC. He specialises in fixed interest securities and is a commentator on economics and markets. More commentary and useful information on fixed interest investing can be found at rogeradvice.com
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