Reserve Bank interest rate call sends NZ dollar tumbling
Friday, 10 August 2018
The New Zealand dollar plunged to a two-year low against the US dollar, after the Reserve Bank pointed to record low interest rates staying in place for years.
From US67.5 on Thursday morning, just before the Reserve Bank announcement, the dollar had dropped to US66.2c by Friday morning at 5am. Throughout Friday the slide has continued, dropping below US66c just after 1pm.
A weaker dollar makes imported goods, especially commodity products such as petrol, more expensive, although it tends to help the overall economy as New Zealand's exports will be relatively cheaper for overseas customers.
The plunge in the dollar followed a Reserve Bank update which left the official cash rate (OCR) unchanged at 1.75 per cent on Thursday, but signalled the benchmark rate would stay at its record low until 2020, longer than the market expected.
**READ MORE:
* Reserve Bank says OCR will stay low into 2020
* Business leaders, economists fear NZ economy is slowing**
There was also a signal that if the current 'air pocket' in New Zealand's economic expansion does not pick up - with growth still predicted to return to 3 per cent late next year - the Reserve Bank was prepared to slash interest rates further.
Adrian Orr, who became the Reserve Bank governor earlier this year, repeated his message that business should be investing with strong international demand for New Zealand's products, a weaker dollar, capacity constraints and low unemployment.
'All signals are green for business investment,' Orr said on Thursday, before acknowledging that, according to many surveys, including the Reserve Bank's, business sees the economy slowing.
'There is uncertainty in businesses' minds at the moment, and we're cognisant of that. Hence we have, kind of, tempered, I would say, our growth for investment.'
Kiwi dollar 'endangered'
Orr's comments sent the dollar sharply lower, with warnings that the fall will continue.
'The governor continued to deliver a positive feel during the media conference, but the numbers in the [monetary policy statement] are blatantly dovish,' Jarrod Kerr, the chief economist at Kiwibank, said.
As well as moving the expected timing of interest rate moves back to 2020, Kerr said that over the next year, an interest rate cut was now more likely than an increase.
Kiwibank slashed its forecasts for the strength of the kiwi over the next year, describing it as an 'endangered species' for financial markets.
Before Thursday Kiwibank expected the New Zealand dollar to be buying US69c, but now he expects it will be down to US65c, then falling to US63c by the middle of 2019, levels it has only fallen to briefly at any point since 2009.
The New Zealand dollar also fell against our other major trading partners, and is currently buying just over A89.5c, the first time in 2018 it has fallen below A90c.
As well as a weaker dollar, the two-year swap rate, a measure of financial products used to track the future path for interest rates, dropped to a two-year low, suggesting mortgage rates could ease, although the drop is likely to be small.
Economy in 'air pocket'
The Reserve Bank's latest forecasts have cut the speed at which the economy is expected to grow over the coming year below 3 per cent, just three days after Treasury also warned that its Budget forecasts were at risk from a cooling housing market and lower business confidence.
But the central bank still remains highly optimistic that although New Zealand's economy has been in a growth cycle for years and unemployment is now low, from mid-2019 the economy will resume growth of more than 3 per cent.
Reserve Bank head of economics Dr John McDermott said businesses should be investing, but the fall in confidence was creating doubts.
'In terms of the value of investing, given the prospects for exporters in terms of where the exchange rate is … we're running at capacity so the value of investing in plant and equipment should be high. The cost of capital should be lower,' McDermott said.
'The economic ingredients, if you were an automaton, and doing it in a spreadsheet, doing the calculations that a textbook tells you, yes, invest. That's what it would tell you. The fundamentals are good, but the sentiment is not quite there.'
The leading survey of business opinion found that business confidence fell to the lowest level since the Christchurch earthquake in June, while the monthly ANZ business outlook survey suggests it dropped further in July, to the lowest level in at least nine years.
McDermott acknowledged that the 'own activity' measures - which ask businesses how they expect to perform - was often a good indicator of current economic growth, and there was a risk the weak readings would slow the economy.
'There's always a risk that when business confidence falls, it really can become self-fulfilling in the real economy.'
McDermott said while economic growth had slowed, 'this is not an economy going backwards, we're still progressing. The problem is, a year ago, we were at 3.5 per cent [growth], it felt really good.'
Currently the economy was growing at an annual rate of around 2.5 per cent, McDermott said.
'It's still positive, we're still going forward, but no one feels good about it. We've sort of felt this little air pocket in the business cycle and nobody's feeling great about it.'
The Reserve Bank remained positive about the fundamentals for the New Zealand economy, but McDermott said the mood of business could undermine this if it continued.
'If this sentiment that's playing out becomes self-fulfilling, that could overwhelm these other drivers.'