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Why Hasn’t the NZD Dropped as Expected?

July 27, 2020

NZD dropped

What has occurred in the forex markets over the last few weeks is that the weakening momentum in the USD (for a host of good reasons) has outweighed all of the variables that were expected to produce a pull-back in the NZD/USD rate to the 0.6400 area.

The Kiwi traded to a high of 0.6685 on July 23rd on the back of mass selling of the US dollar against all currencies. The USD sell-off against the Euro commenced from the $1.0800 point in early May and has intensified in recent weeks as investors around the world shift out of the USD on the basis that the US economy has been hit the hardest by Covid-19 and is struggling to recover.

Over the last two weeks, the USD has weakened 4% from $1.1200 to the current $1.1650 level.

The higher NZD/USD rate is all about the depreciation of the USD, nothing much to do with the New Zealand side of the currency pair. RBNZ is not expected to disappoint with actions to force the NZ dollar down. Whilst the New Zealand economy is recovering earlier and stronger from the pandemic shut down, the RBNZ will still be very cautious and suspicious about the economic outlook when they deliver their Monetary Policy Statement on August 12th.

Global economic conditions will continue to be challenging, and there will be concerns about job cuts and company failures impacting consumer spending once the Government’s wage subsidy ends on September 1st. The RBNZ is likely to continue its pre-emptive monetary policy management and increase the LSAP amount from the current $63 billion to over $90 billion. They will not have to actually use any of the increased amounts to support the economy, however, they see less risk with that occurring than finding out later they should have moved earlier with the increased QE.

The RBNZ has been very consistent over the last two years when taking action to force the Kiwi dollar lower as they see a weaker currency as being more helpful for economic recovery. This approach ignores the fact that USD exporters hedge forward their currency risk for multiple years and thus have their profits protected.

On the day of the RBNZ statement, the NZD/USD rate will likely be sold off one or two cents as the markets react to the increased monetary loosening.

However, it is unlikely the RBNZ will attempt to control the NZD/USD value when it is the USD side of the currency pair that is causing the higher exchange rate.

Apart from dairy commodity prices increasing over recent weeks, there has been no other positive NZD factors to cause the sharply higher NZD/USD exchange rate. It is all about USD weakness.

Surprisingly, FX market reports on the Kiwi dollar produced by local banks and brokers rarely includes analysis of likely future USD movements against all currencies, yet it represents half of the exchange rate and cannot be ignored.
US economy (and the USD) goes from bad to worse.

No-one is calling it the second wave of Covid-19 smashing the US economy, however, that appears to be what is happening as the US pays the price for underestimating the voracity of the infectious disease, were not cautious enough and re-opened too early.

The latest weekly employment numbers in the US indicate that the previous improving trend with jobs has started to turn the other way. The full July jobs report (Non-Farm Payrolls) is due for release on Friday, August 7th and the increase in jobs may well prove to be somewhat less than the current consensus forecast of +2.2 million.

The Trump administration continues to blame China for all their problems, however, their cycle of confrontation with China is all about attracting votes in the upcoming Presidential election and nothing much to do with the economy.

The largest risk for local USD exporters was always about a shift in the value of the USD itself and that is now happening.

The US dollar no longer has an interest-rate advantage over the Euro and the internal Government budget deficit has blown out to 14% of GDP. The US economy requires a lower currency value to attract foreign capital to finance its massive deficits.

The expected short-term pull-back in the Kiwi dollar to 0.6400 could still happen, however, the medium to the longer-term outlook of a much weaker USD propelling the NZD/USD rate to 0.7000 and above remains.

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