AUG 16 2018
All Posts
AUG 16 2018
All Posts

Can the Kiwi fly again?

Posted by: Aaron Drew, Economist and Rutherford Rede Investment Committee Member in finance

The Reserve Bank’s recent announcement was a surprise to financial markets, who were perhaps less concerned about downside trade risks, and more focused on evidence that wages and inflation are rising in our economy. Balancing risks is always a fine judgment for a central bank. We should not be surprised if in upcoming months the Reserve Bank changes its view should trade risks recede, or inflation accelerate faster. 

The New Zealand dollar has been falling over this year. At 66c versus the US dollar at the time of writing it is around 10% lower than its peak in February, and its lowest point since early 2016. It’s also around 25% lower than its post-1985 high against the USD of around 89c, which was reached 4 years ago in July 2014. 

Every time the kiwi goes through a period of weakness a rush of articles appear, dissecting its movement and implications for the future.This is partly because the exchange rate is undeniably important for businesses, households and asset prices. When the exchange rate declines it makes foreign goods and services (including holidays abroad) more expensive. Kiwi households suffer a decline in how far their money goes. But it also makes our exports more competitive, and a more attractive place for overseas tourists. And it increases the value of offshore investments Kiwis hold (on an unhedged basis). 

So, to join the fray, what could happen next? The short answer is anything. At present levels the RBNZ estimates that our exchange rate is in the ‘goldilocks zone’. It’s at a level that supports exporters and household spending at rates that also keep our trade with the rest of the world balanced. Through this lens the Kiwi should stay put. But even so, it might not. The US economy is going gangbusters, and as US short-term interest rates rise further above ours their currency becomes more attractive for capital flows – investors can earn a higher return or ‘carry’ from low-risk US investments. This could push the US dollar up against other currencies, including the NZ dollar.

We also cannot rule out a ‘shock’ to global growth. The shift out in the timing that the RBNZ says it will increase rates recognises a trade war risk, in particular. The NZ dollar also typically temporarily falls whenever there is a major ‘shock’ to the world economy – as seen in the 2009 financial crisis, the dot com crash in 2001, and the Asian crisis in 1997. These types of declines help our economy adjust to the weakness in global trade that such shocks cause. The exchange rate is like a shock absorber in a car, dampening the impact of bumps along the road. 

But there are also reasons to suppose the Kiwi can fly again. Growth and inflation may increase faster than expected, forcing the RBNZ off the fence. Our commodity prices may rise strongly again as the Asian growth baton passes from China to India. And finally, there is a huge opportunity for our economy to boost its relatively low productivity levels, which in turn would support a higher exchange rate and higher living standards. The Productivity Commission has many worthy suggestions to make this happen, including boosting infrastructure spending and changing tax settings to making it more attractive for New Zealanders to invest in businesses rather than houses.[1]  Let’s hope our politicians are paying attention. [1]See http://www.csls.ca/ipm/34/Conway.pdf

KEY FACTS FROM AROUND THE GLOBE

Events

  • The Trump Administration’s attempt to re-set trade relationships in its favour intensified. A tariff rate of 25% on $200 billion worth of Chinese exports to the US was threatened. China countered with new tariffs of at least $110 billion on US made goods.
  • The high-stakes trade poker game continues to be ignored by most equity markets. The focus has instead been on global growth and corporate earnings, which remains robust.
  • The NZ housing market continued to cool, particularly in Auckland where sales, listings and rents all had soft readings. July’s median Auckland house price was $810,000, around the same level as July 2017. Government policies such as ring fencing losses, foreign buyer restrictions, and bright line extensions are beginning to make a difference.

Economics

  • All 24 economies that are members of the MSCI developed equity markets index are currently growing, as are the 26 economies that make up the MSCI emerging market index.
  • Global real GDP growth is currently running at around 3.8%, well above the 2.5% level experienced on average over the past decade.  
  • The IMF’s July global economic update forecasts global growth to accelerate to 3.9% in 2019.  Within this forecast it upgraded the US outlook and mildly downgraded China, Europe, and Japan. 

Markets

  • Developed equity markets increased by around 3% in July, whilst Emerging Markets increased by around 2.2%. The Aussie market was up around a per cent while in contrast the NZ share market mildly declined, following stellar performances in previous months.
  • The Reserve Bank of New Zealand left the OCR on hold at 1.75% in its 8 August update. However, it pushed out the timing of future rate increases to 2020 on concerns that downside risks are rising.  Their main concern is the escalation of global trade tensions, and its potential negative impact on our key trading partners in Asia and Australia.  
  • The softer RBNZ update caused our currency to mildly decline. It is around 2% lower versus the US dollar and 1.5% against our trading partners since the start of July.

KEY FIGURES


Tags: The World In Ten Minutes, Monthly Economic Roundup,

The Reserve Bank’s recent announcement was a surprise to financial markets, who were perhaps less concerned about downside trade risks, and more focused on evidence that wages and inflation are rising in our economy. Balancing risks is always a fine judgment for a central bank. We should not be surprised if in upcoming months the Reserve Bank changes its view should trade risks recede, or inflation accelerate faster. 

The New Zealand dollar has been falling over this year. At 66c versus the US dollar at the time of writing it is around 10% lower than its peak in February, and its lowest point since early 2016. It’s also around 25% lower than its post-1985 high against the USD of around 89c, which was reached 4 years ago in July 2014. 

Every time the kiwi goes through a period of weakness a rush of articles appear, dissecting its movement and implications for the future.This is partly because the exchange rate is undeniably important for businesses, households and asset prices. When the exchange rate declines it makes foreign goods and services (including holidays abroad) more expensive. Kiwi households suffer a decline in how far their money goes. But it also makes our exports more competitive, and a more attractive place for overseas tourists. And it increases the value of offshore investments Kiwis hold (on an unhedged basis). 

So, to join the fray, what could happen next? The short answer is anything. At present levels the RBNZ estimates that our exchange rate is in the ‘goldilocks zone’. It’s at a level that supports exporters and household spending at rates that also keep our trade with the rest of the world balanced. Through this lens the Kiwi should stay put. But even so, it might not. The US economy is going gangbusters, and as US short-term interest rates rise further above ours their currency becomes more attractive for capital flows – investors can earn a higher return or ‘carry’ from low-risk US investments. This could push the US dollar up against other currencies, including the NZ dollar.

We also cannot rule out a ‘shock’ to global growth. The shift out in the timing that the RBNZ says it will increase rates recognises a trade war risk, in particular. The NZ dollar also typically temporarily falls whenever there is a major ‘shock’ to the world economy – as seen in the 2009 financial crisis, the dot com crash in 2001, and the Asian crisis in 1997. These types of declines help our economy adjust to the weakness in global trade that such shocks cause. The exchange rate is like a shock absorber in a car, dampening the impact of bumps along the road. 

But there are also reasons to suppose the Kiwi can fly again. Growth and inflation may increase faster than expected, forcing the RBNZ off the fence. Our commodity prices may rise strongly again as the Asian growth baton passes from China to India. And finally, there is a huge opportunity for our economy to boost its relatively low productivity levels, which in turn would support a higher exchange rate and higher living standards. The Productivity Commission has many worthy suggestions to make this happen, including boosting infrastructure spending and changing tax settings to making it more attractive for New Zealanders to invest in businesses rather than houses.[1]  Let’s hope our politicians are paying attention. [1]See http://www.csls.ca/ipm/34/Conway.pdf

KEY FACTS FROM AROUND THE GLOBE

Events

  • The Trump Administration’s attempt to re-set trade relationships in its favour intensified. A tariff rate of 25% on $200 billion worth of Chinese exports to the US was threatened. China countered with new tariffs of at least $110 billion on US made goods.
  • The high-stakes trade poker game continues to be ignored by most equity markets. The focus has instead been on global growth and corporate earnings, which remains robust.
  • The NZ housing market continued to cool, particularly in Auckland where sales, listings and rents all had soft readings. July’s median Auckland house price was $810,000, around the same level as July 2017. Government policies such as ring fencing losses, foreign buyer restrictions, and bright line extensions are beginning to make a difference.

Economics

  • All 24 economies that are members of the MSCI developed equity markets index are currently growing, as are the 26 economies that make up the MSCI emerging market index.
  • Global real GDP growth is currently running at around 3.8%, well above the 2.5% level experienced on average over the past decade.  
  • The IMF’s July global economic update forecasts global growth to accelerate to 3.9% in 2019.  Within this forecast it upgraded the US outlook and mildly downgraded China, Europe, and Japan. 

Markets

  • Developed equity markets increased by around 3% in July, whilst Emerging Markets increased by around 2.2%. The Aussie market was up around a per cent while in contrast the NZ share market mildly declined, following stellar performances in previous months.
  • The Reserve Bank of New Zealand left the OCR on hold at 1.75% in its 8 August update. However, it pushed out the timing of future rate increases to 2020 on concerns that downside risks are rising.  Their main concern is the escalation of global trade tensions, and its potential negative impact on our key trading partners in Asia and Australia.  
  • The softer RBNZ update caused our currency to mildly decline. It is around 2% lower versus the US dollar and 1.5% against our trading partners since the start of July.

KEY FIGURES


Tags: The World In Ten Minutes, Monthly Economic Roundup,

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