New Zealand Dollar "Recovery Now Well Underway" says BNZ

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Bank of New Zealand (BNZ) is in the process of upgrading its forecasts for the New Zealand Dollar, saying a recovery in the currency is "now well underway" thanks to a robust labour market, the need for the RBNZ to hike further and hopes for a gradual move away from zero-Covid in China.

"Since the beginning of October, the NZD has been one of the best-performing major currencies, driven by multiple factors," says BNZ's New Zealand FX strategist Jason Wong who says the currency's recovery cycle is proceeding earlier than originally expected.

The NZ Dollar endured notable underperformance for much of 2022's third quarter, but rallied through late October and into November, with Wong citing:

• a weaker USD backdrop
• increased hope of a gradual easing of China's zero-Covid policy
• a more hawkish RBNZ policy update at the October MPR
• strong labour market data
• the entry of NZ government bonds into the FTSE-Russel World Government Bond Index.

"NZ labour market data indicated a still very tight labour market, with the unemployment rate steady at 3.3% and strong wages inflation," says Wong.

The labour market carries a particular relevance for the outlook of Reserve Bank of New Zealand (RBNZ) policy, as it suggests it would be too soon to consider ending the rate hiking cycle.

"The data were the last key domestic indicators ahead of the RBNZ's 23 November MPS and there are differing opinions on whether the Bank should or shouldn't step up with a jump 75bps hike at the meeting," says Wong.

BNZ is "firmly in the camp that a step-up is unnecessary," given the significant tightening still in the pipeline as mortgage holders roll off onto considerably higher rates and the end of the Funding for Lending Programme in December.

Markets show 62 basis points of hikes are now anticipated by investors, confirming the upshift in rate hike expectations.

Regarding the all-important China factor, BNZ says the currency's sensitivity to China's outlook will remain key, particularly with regard to expectations that China's zero-Covid policy could be significantly eased.

Ahead of the winter flu season, it's hard to see any dramatic changes to the policy, but BNZ thinks there's a case for a very gradual easing of restrictions through the course of the coming year.

"We think it's best not to think of the policy as a binary decision, but a gradual policy change that sees a gradual fading of one NZD headwind that has been in place through 2022," says Wong.

More broadly, an expectation that the U.S. Dollar has now peaked holds a corollary that the NZD has likely seen its cycle lows, according to BNZ.

BNZ are in the process of upgrading their NZD forecasts given the currency's recovery is "now well underway".

Ahead of the review, BNZ holds a NZD/USD forecast of 0.57 by year-end, 0.60 by the end of the first quarter of 2023 and 0.62 by the end of the second quarter.

Their GBP/USD profile for the same time points is for 1.10, 1.13 and 1.16, this gives a Pound to New Zealand Dollar cross rate forecast profile of 1.93, 1.88 and 1.87.

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