The NZD is likely to remain fairly strong until New Zealand's

Chris Tennent-Brown, Economist, on the Kiwi

What are going to be the major drivers for the Kiwi throughout this year?

This year the economy is still carrying the momentum we had expected it to at the start of the year. The coming together of on-going momentum in the Canterbury rebuild, the emergent lift in long-overdue Auckland house-building, strong net migration flows, and a good run of commodity returns is delivering strong growth for 2014. This pace is above what the economy can sustain for a long period of time. The RBNZ’s lifting of interest rates is intended to transition the economy back to a sustainable growth pace in a smoother fashion than a hands-off boom/bust cycle would deliver.

In our feature piece we look at the linkages of New Zealand’s solo journey to higher interest rates, the dynamics with the Kiwi, and the negative flow-on effects of the high NZD beyond pastoral commodities. Given the strength of domestic demand within New Zealand’s recovery and consequent emerging inflation pressures, the RBNZ does want to get interest rates up from low levels to avoid overheating occurring. But the reality is that, with New Zealand ahead of much of the developed world in lifting interest rates, a floor is being put under the Kiwi. In the current global environment of low volatility, high asset prices, and subsequent focus on yield, New Zealand stands out.

There are other currency drivers, and commodity prices are an important one over the long term. But there are periods when the NZD can decouple from commodity price trends, as it has since dairy prices began falling in February. And while lower dairy prices without a weaker currency acting as a buffer will eventually affect economic growth (and inflation), the impact is not immediate. Overall, the wider economy has been relatively resilient so far to the sustained strength in the NZD. However, some parts of manufacturing, notably electrical and mechanical manufacturing, have been weak.

The NZD is likely to remain fairly strong until New Zealand’s interest rates are no longer seen as advantageous – either through rates in the major economies finally catching up or the risk environment flicking the switch to worrying about the safety of capital. Next year we do see the Kiwi starting to soften on a sustained basis. The RBNZ is about halfway through its tightening cycle and we expect it will finish in the second half of next year. By that point other countries will be either lifting interest rates themselves or be very close to it, reducing the yield advantage of the Kiwi denominated assets. So even though growth will be slowing to a more sustainable pace, over time some moderation in the NZD will help create a bit more balance within the economy. Meanwhile, the continued NZD strength is one factor likely to keep the RBNZ on hold until late in the year.

Chris Tennent-Brown, Economist, on the Kiwi

What are your forecasts for the AUD/NZD, USD/NZD and the JPY/NZD currency pairs for the end of Q3 and the end of 2014?

We expect the AUD/NZD to reach the 0.91 in the near term and by the end of 2014 we anticipate it trading around 0.90 levels. Talking about the USD/NZD currency pair we look for 0.86 for the end of Q3 and inching up a bit till 0.87 by the end of this year. Finally, for the JPY/NZD we expect the pair to trade at 90 by the end of Q3 and as for the long term perspective, we see the pair ending the year at 93.