Will the Reserve Bank of New Zealand (RBNZ) once again batter the NZ dollar (NZD) lower as it did in the third quarter of 2014?
Amidst falling inflation and a strengthening exchange rate we could well see the decision makers at the RBNZ take an aggressive approach towards the currency says a new analysis from Bank of America Merrill Lynch.
Indeed, the same analysis says parity with the Australian dollar will remain unlikely in coming months.
NZD Still Overpriced - a Worry for the RBNZ
According to analysts the NZ exchange rate complex over-priced:
“Using 12 equilibrium exchange rate models, grouped in five methodologies, our median estimates show the NZD is the most overvalued currency in G10.”
This has implications for the kiwi in coming months as the current upward trajectory could be scuppered.
“The exchange rate is likely to remain a policy priority for the RBNZ in the months ahead, although a reasonable question is whether they can do much about it. Low inflation and little prospect of rate cuts mean that NZ real rates are beginning to climb again relative to other countries,” says Adarsh Sinha at BofA Merrill Lynch.
While the NZ Dollar is more than 12% below its 2014 highs, the RBNZ’s trade weighted index has climbed steadily over the past few months and is now just 3.5% below its record highs and above the RBNZ’s assumption in its December Monetary Policy Statement (MPS).
The Outlook for the NZD in the New Two Weeks: What to Watch
The next two weeks will be critical in judging whether the RBNZ is willing to step up its effort to weaken the currency.
According to Sinha there are two key events to watch:
- The CPI inflation data on 21 Jan
“Like most major economies, headline inflation is likely to be very low over the next few quarters due to the impact of lower oil prices.
“Our economists expect CPI to rise 0.8% YoY, below the RBNZ’s forecast of 1.0%. The RBNZ may focus more on the non-tradables component of inflation that had been elevated at the start of 2014 but fell to 2.5% in 3Q.
“Any downside surprise to headline or non-tradables inflation could foreshadow more a dovish inflation outlook from the RBNZ.”
- The RBNZ meeting on 29 January
“While the RBNZ may choose to wait until the March MPS to judge the persistence of low oil prices before making significant revisions to its forecasts, there is some risk it may choose to convey a more dovish stance in the January statement itself.
“This could include retracting its tightening bias, as well as strengthening its already firm language on the NZD level being unjustified and unsustainable.”
No Parity With the Australian Dollar
Rumblings of parity in AUDNZD have resumed, much as they did at the beginning of 2014.
AUDNZD at parity is unlikely based on BofA’s statistical scenario analysis, using the sensitivity of the pair to the 2yr interest rate swap differential and relative commodity prices.
“For parity to be reached on a sustainable basis, New Zealand's 2-year swap differential with Australia would need to widen 40bp (to its widest level since 2007) or its commodity export prices would need to outperform Australia's by 60ppt - or some combination of the two: these historically extreme scenarios seem unlikely even if New Zealand's economy were to outperform Australia’s.
“Any material dips in AUD/NZD below 1.05 therefore present a good opportunity to tactically pair, even though we remain strongly bearish on AUDUSD for 2015.”