Opinion: Fears of global recession overshadow easing of financial crisis

By BNZ Currency Strategist Danica Hampton NZD NZD/USD has fallen over the past 24 hours, from above 0.6250 yesterday morning to nearly 0.6100 last night. The USD strengthened last night as fears about a global recession saw investors seek the relative safety of USD denominated assets. While the measures undertaken by various governments should eventually shore up the financial sector, investors are increasingly concerned about the global growth outlook. Last night's UK CBI survey of industrial trends survey painted an extremely bleak picture and highlighted the need for the Bank of England to continue cutting interest rates. Meantime, the Bank of Canada actually cut rates by 25bps to 2.25%. It warned about the weakening global economy and implied further rates cuts were likely. Other leading indicators of global growth like commodity prices also dived last night. The Baltic Dry Index (a measure of international freight and shipping activity) fell 4.6% last night to a six year low and the CRB index (a broad measure of commodity prices) is down 2.1%. More relevant for NZ, Agrifax data showed dairy prices (in USD terms) fell 3% last week and are now about 30% off the highs seen last November. Locally, Q3 CPI came in bang on expectations "“ at 5.1%y/y. While the detail proved more robust than we anticipated, we don't think this will stop the RBNZ easing aggressively on Thursday. Market pricing more or less consistent with the RBNZ cutting 100bps this week, but we'd caution against getting overly hung up about exactly how much the RBNZ delivers on Thursday. The more important message is that the OCR will move substantially lower over the next year (we have a trough of 5.25% pencilled in for 2009). For today, the backdrop of softer global equities and global recession fears should limit the topside in NZD/USD. We suspect bounces will be limited to 0.6180 and initial support is seen ahead of 0.6075. Majors Despite tentative signs the financial crisis is starting to ease, the USD strengthened against most of the major currencies last night as worries about a global recession escalated. There were some encouraging signs in cash and credit markets last night. Inter bank funding pressures continued to ease last night. US 3-month Libor fell 22bps to 3.83% and the 3-month US TED spread (yield difference between Libor and T-bills) slipped 35bps to 2.63%. Adding to its efforts to free-up credit markets, the Fed said it would provide financing to shore up confidence in money market mutual funds. Under the program, the Fed will help buy up to US$600b in short-term debt (3-months or less). France announced its will buy EUR10.5b of subordinated debt from its six biggest banks in exchange for a pledge that they will increase lending to businesses and consumers. Nonetheless, investors remain increasingly concerned the global economy is headed for recession. The UK CBI survey of industrial trends survey painted an extremely bleak picture and highlighted the need for the Bank of England to continue cutting interest rates. The Bank of Canada cut rates 25bps to 2.25%. It warned that weakening global demand was drag on the Canadian economy and implied further rates cuts were likely. Emerging economies are also suffering badly. Argentina's stock market fell 13.5% last night (down 36% month-to-date) amid fears the government will nationalise pension funds in effort to stave of national default. As investors sought out the relative safety of US denominated assets the USD has tended to strengthen. Last night, EUR/USD slipped steadily from above 1.3300 to below 1.3100 "“ its lowest level since May 2007. Against a backdrop of slowing global growth, we expect investors to shift into more traditional markets and asset classes and these repatriation flows are expected to benefit both the USD and JPY over the coming months. Consequently, expect EUR/USD to remain under pressure. With economic growth now a greater focus, keep an eye out for Friday's Eurozone PMIs and the preliminary estimate of UK Q3 GDP. * Danica Hampton is BNZ's Currency Strategist. All of the research produced by the BNZ Markets team of economists is available here.