Australian Dollar, New Zealand Dollar Forecasts Downgraded at Capital Economics

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The Australian and New Zealand Dollars are set to extend their decline as commodity prices prove unsupportive and a fall in global stock markets continues well into 2023.

This is according to Capital Economics, an independent economic research provider, which has announced a cut to their New Zealand and Australian Dollar forecasts.

"Though these currencies have fallen past our once-downbeat end-2022 forecasts, we now expect both to fall further as two key headwinds persist into 2023," says James Reilly, Assistant Economist at Capital Economics.

The Australian Dollar is one of the better of the world's major currencies for 2022, having only given ground to the U.S. Dollar (-14%), Canadian Dollar (-5.5%) and the Franc (-5.30%).

But, when the Aussie is screened over a one-month and one-week time period the Aussie is the worst performer, suggesting some near-term weakness is building:

Above: AUD on a one-month view. To better time your payment requirements, consider setting a free FX rate alert here.

The New Zealand Dollar was also a strong performer into the middle of 2022 as all commodity currencies rose as commodity prices surged in the wake of Russia's invasion of Ukraine.

But, like its neighbour, underperformance has set in over recent weeks.

"We don’t think commodity prices will provide support these currencies, unlike earlier this year," says Reilly.

Capital Economics thinks commodity prices will continue to move against these two currencies, partly because the prices of many of their exports are dependent on demand from China, "where the economic outlook looks bleak".

The global backdrop is meanwhile also anticipated to be unsupportive of risk-sensitive currencies.

"We expect the external backdrop to remain unfavourable for cyclically sensitive currencies such as the aussie and kiwi," says Reilly. "The global economy will go through a recession as central banks tighten monetary policy aggressively and demand continues to slow."

Global risk sentiment has been poor for the duration of 2022 and is expected to remain so for some time by most market analysts we follow, with rising interest rates at the Federal Reserve most widely cited for the expected underperformance.

"Risk sentiment to deteriorate further until around the middle of next year," says Reilly.

This is consistent with Capital Economics' forecast for the S&P 500 to hit 3200 by this point.

"Given how closely these currencies have tracked risky assets, such as global equities, this year, we expect these “high-beta” currencies to face more pressure," says Reilly.

Above: Commodity prices no longer a source of support. Image courtesy of Capital Economics.

Although the Fed is raising interest rates at a pace, the reserve banks of Australia and New Zealand are expected to slow down.

"We think investors are discounting too tight a monetary policy stance from the RBA and RBNZ," says Reilly.

Australia and New Zealand's property markets are believed to be at risk of a sharp slowdown over the coming months as higher central bank interest rates bite into household affordability.

Reserve banks risk creating new self-fulfilling crises if they continue to raise rates at break-neck speed into fragile housing markets.

"We expect sharp downturns in housing markets to contribute to broader economic weakness and prompt those central banks to cut interest rates next year," says Reilly.

With the RBA and RBNZ likely heading in the opposite direction to the Fed in 2023 (and indeed potentially the Bank of England and European Central banks too) the antipodean currencies could find themselves at the mercy of a divergent rates story.

Capital Economics forecasts AUD/USD to fall to 0.62 by end-2022, down from a previous forecast of 0.66.

It is expected to "trough" at 0.60 around the middle of 2023.

The New Zealand Dollar is forecast to fall to 0.55 by end-2022, previously 0.60, and to trough at 0.54 around the middle of 2023.

"What’s more, we think that the risks around those forecasts remain skewed to the downside," says Reilly.