Roger J Kerr says escalating global trade tensions are weighing the New Zealand dollar down

By Roger J Kerr

The NZ dollar has retreated sharply from highs of 0.7350 against the US dollar last week to currently trade at 0.7215. The immediate outlook could well be for further depreciation if the US Federal Reserve’s interest rate hike this coming week pulls the USD higher on global currency markets.

Some returning USD strength on the back of their rising interest rates may well be sufficient to push the Kiwi below its major support level of 0.7180, which is not far away. A clear break below 0.7180 would certainly attract more NZD selling from a technical/charting standpoint.

The two prime reasons for this latest bout of NZ dollar selling are as follows:-

• International financial and investment markets have moved to a “risk-off” mode as US political risk ratchets up another notch with the latest round of wild and bizarre decisions by President Trump. The markets are right to react negatively to the revolving door of Trump cabinet positions and economic advisors. The latest economic advisory appointment coming from the talking heads of cable media (which Mr Trump is an avid watcher of!).
• The real possibility of President Trump announcing far-reaching import tariffs against Chinese manufactured products sometime this week has weighed against the Kiwi and Aussie dollars, as both economies are heavily reliant on the well-being of the Chinese economy. Retaliatory trade wars is a negative development for trading nations such as ourselves. If Chinese manufacturing production volumes are hit by US trade protectionist decisions, metal and mining commodity prices will fall and the Aussie dollar has already been sold down two cents from 0.7900 to 0.7700 against the USD in anticipation of this reaction.

The local FX market was delivered a timely reminder of what really drives New Zealand’s economic performance last week with the release of the GDP growth figures for the December 2017 quarter. The 0.60% increase was weaker than the prior consensus forecasts of a 0.80% lift.

The weather always plays a part in our largest industry, agriculture, and unseasonal climatic conditions last spring reduced primary production volumes. Contributing to the economic expansion in the December quarter was increased inventories, suggesting that production volumes may be somewhat lower in early 2018 as the increased stocks are worked through. The Kiwi dollar weakened in response to the lower than expected growth number.

The US dollar itself has not been able to move out of the narrow $1.2200 to $1.2500 trading range against the Euro with the dual US deficits and the unpredictable Trump factor being negative influences, whilst continually increasing US interest rates should be more of a positive for the US dollar than has been reflected recently in global FX markets.

Escalating international trade tensions are a negative for the US dollar as the “Fortress America” campaign by the Trump administration will prove to be negative for the US economy in general. The inter-connection and the inter-dependence of global manufacturing supply chains is a modern business reality that seems to have eluded Trump’s understanding of how the US economy works in 2018.

There appears to be much more stability in the international dairy commodity markets in recent months and the previous wild swings in whole milk powder prices has ceased for the meantime.  The tighter trading ranges for the NZD/USD exchange rate reflects the less volatile nature of the prices for our largest export commodity.

The medium term outlook for the Kiwi dollar is one of moderate depreciation as slowing capital inflows and NZ short-term interest rates heading below those of the US weighing against the exchange rate. A further potential risk, that the currency markets are yet to focus on, is the possibility of increased industrial strike action over coming months as the public sector unions flex their muscle for significant wage increases from the new Labour Coalition government.

The New Zealand economy has not had the interference and disruption of industrial disputes for many years, however that benign environment may be about to change. The Government’s slow response to whether it favoured a free trade agreement with the European Union or with Russia also added to the weaker sentiment towards the Kiwi dollar this last week.

Roger J Kerr contracts to PwC in the treasury advisory area. He specialises in fixed interest securities and is a commentator on economics and markets.