NZ Dollar Downside Pressures as Government Eschews More Contentious RBNZ Reforms

The New Zealand Dollar is down 6% since September's election despite unemployment falling and rising inflation conditions that would normally make for a stronger currency. 

The New Zealand Dollar drew a boost Tuesday after plans for the government’s reform of the Reserve Bank of New Zealand appeared to show Jacinda Ardern’s Labour Party eschewing the more currency-negative measures some have feared in recent weeks.

New Zealand’s currency rose against much of the G10 basket in response, holding gains over other commodity Dollars through the London session but ceding ground back to the majors amid a broad strengthening of the US greenback.

Details of the reforms came when NZ Finance Minister Grant Robertson signed a renewed Policy Targets Agreement with the RBNZ and fired the starting gun on a two stage review of the central bank’s mandate.

“The renewed PTA will continue to provide continuity, consistency and stability for the monetary policy target during the period of review of the monetary policy provisions of the Reserve Bank Act, and ahead of the appointment of a new Governor,” says Robertson.

The review of the RBNZ mandate is a precursor to reform and fulfills a key electoral pledge of the Labour and New Zealand First coalition, but it comes alongside a changeover at the top of the RBNZ, which is currently under the watch of acting governor Grant Spencer.

Robertson’s review is expected to bring a changeover at the bank to a committee based rate setting model and the incorporation of some kind of employment target into the RBNZ’s mandate - alongside its inflation target.

The New Zealand Dollar fell as traders assumed this would mean New Zealand interest rates were pushed lower - recall much of the currency's strength over recent years has come from the fact that New Zealand has the highest central bank interest rate amongst developed economies.

“Today’s announcement does not change our outlook for the NZD as the RBNZ Act will still be changed to loosen its inflation targeting mandate and a dovish Governor likely appointed to interpret the new Act,” says Manuel Olivieri, a foreign exchange strategist at Credit Agricole.

The Pound-to-New-Zealand-Dollar rate was quoted 0.28% higher at 1.9028 during noon trading in London Tuesday. 

Pound-to-New-Zealand-Dollar rate at hourly intervals. Captures 2017 trend and recent gains.

Markets had feared RBNZ reform as it could have seen the central bank lumbered with a specific, and rigid, unemployment target as well as some kind of currency targeting framework that had been championed by Labour’s coalition partner New Zealand First.

“The review will recommend changes to the Act to provide for requiring monetary policy decision-makers to give due consideration to maximising employment alongside the price stability framework,” says Roberton’s policy document.

Any mention of a specific or overly rigid employment target was notably absent from Robertson’s policy document. So too was any reference to NZ First’s proposed currency target. This is a positive development for the Kiwi Dollar.

“New Zealand’s unemployment rate is already low at 4.6%, within the Treasury’s recent range of estimates of full employment, so the extent to which a dual mandate would push NZD lower may be limited,” says Natalie Rickard, a foreign exchange strategist at BNP Paribas.

Details of Labour’s reforms may have removed one major hurdle to a New Zealand Dollar recovery. However, concerns over other parts of the government’s policy agenda remain in place.

NZD/USD rate shown at hourly intervals. Captures November rebound and Tuesday trading. 

“Sentiment towards the NZD still looks very pessimistic, with our measure of NZD momentum reaching its most bearish score since the financial crisis, while short NZD positions remain extended,” notes BNP’s Rickard.

The opening to November saw the New Zealand government announcing plans to move ahead with a ban of foreign purchases of existing residential property in New Zealand, something that many observers see as sending a negative signal about the economy’s openness to foreign investment.

The government’s stated plans to clamp down on inbound migration are also seen, by economists, ushering in an era of higher inflation but lower growth over the longer term.

Nonetheless, some strategists have recently begun to flag New Zealand Dollar bearishness as bordering on excessive and so Tuesday’s statement may help to ease some the downward pressure on the Kiwi currency.

“While markets have perceived the change of government as a negative event for the economy, until policies are formalized, and their economic effects known, the economy has experienced a positive financial shock,” says Sally Auld, a Australia & New Zealand chief economist at JPMorgan.

The trade-weighted New Zealand Dollar has fallen by around 6% since the September general election, unemployment has fallen further than was expected and inflation has picked up by more than was forecast. All are things that would normally add up to a bullish outlook for the NZD.

NZD/USD rate shown at daily intervals. Captures election uncertainty and reaction.

“The probability of large minimum wage increases per Labour’s policy also will start to have a bearing on the medium-term inflation outlook,” Auld adds. “Annual inflation still should roll down in the next couple of quarters, but the trough will now be higher, probably in the low 1s, before moving back up to the 2% target in 2019.”

The RBNZ is mandated to target consumer price inflation of between 1% and 3%, while Auld forecasts a return to the mid-point of this range before 2019 - which begs the question of how long the Kiwi Dollar can stay near its current lows for.

That said, with the RBNZ mid-way through a year long changeover of the guard and the bank now subject to a five month review, it could be some time before markets are happy to brazenly bet on rate hikes in the Antipodes.

The next scheduled event of importance to the Kiwi Dollar is November's RBNZ interest rate statement, which is pencilled in for release at 20:00 London time Wednesday. 

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