New Zealand Dollar: Further "Material Declines" Unlikely says ASB

- NZ economy forecast to slump 6% in 2020
- But NZ well placed to weather the storm
- NZ Dollar's losses could have run their course

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- GBP/NZD spot rate at time of writing: 2.0692
- Bank transfer rates (indicative): 1.9970-2.0120
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The New Zealand economy is currently enduring a substantial slump in economic activity owing to the coronavirus pandemic that will inevitably see unemployment shoot higher, but the country entered the recession on a relatively strong footing that should limit the damage to both the economy and the currency says ASB.

The Aukland-based lender says that while the New Zealand Dollar has suffered a significant decline owing to the global coronavirus crisis, the lion's share of the currency's losses should now be behind it and they look for more stability over coming weeks.

ASB economists are forecasting the country's economy to contract by an eye-watering 6.0% in 2020 owing to the crash in global trade and the impacts of a domestic shutdown aimed at containing the spread of the coronavirus.

Understandably, the sharp economic contraction should see unemployment shoot higher with ASB forecasting the rate to peak at 8.8% in 2020.

Jane Turner, Senior Economist at ASB does however say "it is important to keep in mind NZ will enter this crisis from a very strong starting point and is comparatively well placed to weather the storm ahead."

According to Turner, New Zealand's fiscal position ahead of the crisis was relatively healthy and has an enabled the Government to move aggressively to put measures in place to mitigate the economic impacts of the virus outbreak.

The Reserve Bank of New Zealand (RBNZ) has responded to the outbreak in aggressive fashion and has drawn on its considerable fire power and cut its basic interest rate to record lows of 0.25% and has initiated its first ever quantitative easing programme that will see it purchase Government Bonds to keep longer-term interest rates low.

It has also introduced various programmes and facilities to ensure the flow of credit through the domestic financial system.

The Government has meanwhile announced support measures amounting to NZ$16.2BN, or around 5% of GDP).

"These measures include wage subsidies, business tax relief and income support, says Turner. "NZ’s rainy day is here, but we have the ability to build a pretty decent shelter."

The Majority of Damage to the New Zealand Dollar has been Done

While the outlook for the New Zealand economy is certainly dire, it is arguably no more dire than any other comparable small, open economy and therefore does not necessarily pose any unique challenges on the New Zealand Dollar.

"Our modelling suggests further material declines in the NZD/USD are unlikely from here unless the NZ outlook fundamentally changes," says Mike Jones, Senior Economist at ASB.

The prediction for the NZ Dollar would come as a relief to those looking to convert their New Zealand Dollars into other currencies, considering the substantial decline in value suffered by the currency in 2020.

The New Zealand Dollar has thus far in 2020 lost 11% against the Dollar, 8.42% against the Euro and 4.4% against the Dollar. In fact, of the world's ten largest freely-traded currencies only the Australian Dollar and Norwegian Krone have done worse.

The declines towards the start of the year were driven by the shock of the coronavirus outbreak in China: both NZD and AUD are highly leveraged plays on exposure to China owing to the hefty trading relationships between the two countries enjoy with China.

But, when the crisis spread to Western nations a substantial drawdown by foreign investors on their capital invested in New Zealand prompted further downside pressures on the NZ Dollar.

"A scramble for U.S. dollars has been the dominant theme in currency markets. There have been
periods of intense illiquidity and volatility, but the situation now is much improved from two weeks ago. Corporates should now be able to access the market with more confidence," says Jones.

"Central bank actions – notably the reinstatement of large central bank swap lines with the US Federal Reserve, and the Fed’s support for various USD funding markets like the commercial paper market, have since helped quell the USD shortage. FX markets have thus regained some semblance of ‘normality’," adds the analyst.

The improvement in the global picture has in turn fed into a more stable New Zealand Dollar, and according to ASB analysis the worst of the downside might now have passed.

According to OECD calculations, the New Zealand Dollar is currently 15% “undervalued” against the U.S. Dollar.

In past cycles of depreciation ASB note the currency has bottomed out 20-30% below fair value.

"Assuming a 25% deviation for the sake of the argument would take us to 0.5600, coincidentally where the NZD/USD bottomed-out a fortnight ago," says Jones. "The point here is that NZD/USD correction we’ve seen from the 0.6400-0.6600 range of January/February into the 0.5500-0.6000 range now looks broadly consistent."

Any stability in the headline NZD/USD exchange rate should feed through into other crosses and therefore limit the upside potential of the Pound-to-New Zealand Dollar exchange rate we believe.

Jones adds that the relatively solid standing of the New Zealand economy heading into the crisis, as mentioned earlier in this article, should provide NZD with further underlying support going forward.

"NZ also has a stronger fiscal position than most and may well come out of the crisis in better shape economically thanks to the proactive containment and support measures enacted to date," says Jones.