Article / 08 February 2018 at 1:17 GMT

NZ dollar slides as Reserve Bank shuts up shop

Managing Director / Technical Research Limited
New Zealand

  • NZDUSD not impacted by risk-off factors 
  •  Dovish policy statement takes its toll 
  •  No rate hike projected before June 2019 

By Max McKegg
Twenty-four hours ago NZDUSD traded at 0.7350 cents. Today it’s closer to 0.7200 cents. 

A lot of water has gone under the bridge in the meantime but it wasn’t the usual risk-off effect of a US stock market tumble that knocked the Kiwi off its perch. 

In fact NZD held up best of all the G10 currencies during the turmoil. Rather, NZDUSD has pulled back under the combined drag of a stronger US dollar and a dovish Monetary Policy Statement Thursday morning from the Reserve Bank of New Zealand.

It’s been three months since we last heard from the RBNZ and in the statement they noted the exchange rate had recovered from the hit it took following the surprise win by left of centre parties in the September general election. 

xxx
The NZD won't be getting a push-along from its central bank any time soon. Photo: Shutterstock

NZDUSD rallied from 0.6775 in mid-November to 0.7425 mid-January with few pullbacks in between. 

The central bank seems unconcerned with the sharp run up observing that “despite recent increases, the Trade Weighted Index (TWI) remains lower that the level observed in mid-2017 and is expected to support tradeable inflation in 2018”. 

The chart below (click to enlarge) shows the TWI was at 79 this time last year, gradually declined to 72.50 after the election and has recently traced back up to 75. 

Note that NZDUSD has only a 14% weight in the index. Of the top-weights, NZDCNY has remained largely stable, so much of the recent increase in the TWI has been caused by a move up in NZDAUD. 
This chart also shows the RBNZ’s projection for the exchange rate over the next year or so, a key technical assumption in the updated economic forecasts published in the Monetary Policy Statement.  

xxx Source: Metastock, RBNZ 

There was no single comment in the Monetary Policy Statement that could be latched on as being explicitly dovish or an indication of any potential policy easing. 

Rather it was the overall tone that caught the attention of FX traders. The RBNZ seems resigned to the fact it won’t achieve the 2% inflation objective until mid-2020, with “tradeables” inflation (imports and locally produced goods subject to foreign competition) the culprit.

Non-tradeables (“home grown”) inflation is expected to increase as GDP grows at an average of 3.2% per annum over the projection period, slightly above potential, and thus putting pressure on labour and capital resources. 
xxx
 

















Source: RBNZ 

With the inflation objective on the distant horizon we might have expected the RBNZ to hint further policy easing was possible, if not necessarily probable. 

However as this chart shows, the existing policy rate of 1.75% is expected to be held steady until mid-2019. 
xxx
 

















Source: RBNZ 

With an eye to the new government, the RBNZ justifies sitting on its hands saying “using additional stimulus to generate a faster return to target inflation would risk generating unnecessary volatility in the economy as stimulus would need to be withdrawn as domestic inflationary pressure builds in the latter part of the projection”. 

Not all economists agree with the RBNZ that the economic growth outlook is rosy, particularly this year. 

While the RBNZ forecasts GDP growth of 3.4% over 2018 Westpac bank analysts reckon it could come in closer to 2.6%. 

Either way, NZD is unlikely to receive any additional support from higher interest rates in the foreseeable future. However fundamental factors such as the terms of trade will be working in its favour. 

The prices received for New Zealand’s exports relative to prices paid for its imports is at the most advantageous positive gap since the 1950s and is expected to be maintained. 

An underlying assumption is that the oil price will decline to around $55/barrel over the next couple of years while dairy prices hold current levels. 

xxx
 


















Source: RBNZ 

Interest rate differentials have gone out of favour recently as a determining factor in FX rates - otherwise NZDUSD would have come under pressure as the yield on 2-year New Zealand government bonds slipped below that of the US equivalent. 

At the longer end of the curve New Zealand sits there at the top of the heap but, as the chart below shows, for 10-year maturities the spread over the US has narrowed over recent times as New Zealand (and Australia) prove reluctant to mirror the move up in Treasury rates.

It's probably because - unlike in the US Federal Reserve - the RBNZ will not be offering support via policy moves. 

xxx
 


















Source: RBNZ 

The Monetary Policy Statement released by the Reserve Bank of New Zealand on Thursday shows they have shut up shop for at least twelve months. 

NZDUSD won’t be getting any boost from a change to the 1.75% policy rate. A dovish tone to the statement produced a slide in the Kiwi on all crosses, including NZDAUD.


-- Edited by Adam Courtenay

Max McKegg is managing director of Technical Research Limited. Follow Max here or post your comment below to engage with Saxo Bank's social trading platform.
08 February
Patto Patto
The New Zealand central bank ended up with egg on its face a couple of years ago when they raised interest rates 100 basis points (at a time when everyone else was easing) to fight an inflation bogey-man that never materialised. This time around they could end up with egg on their face by being too slow off the mark.
08 February
Max McKegg Max McKegg
well said Patto
08 February
Vlado21 Vlado21
+ standard technical swing on 1D chart... ;-)
09 February
Max McKegg Max McKegg
covering trade as no follow through
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