New Zealand Dollar Falls in Wake of OCR Review, Rate Cuts Forecast

The outlook for the NZ dollar has been dominated by the OCR decision at the Reserve Bank of New Zealand.

The meeting has passed and the NZ dollar has slumped.

The Reserve Bank of New Zealand held its official cash rate unchanged at 3.5% this morning and said it is currently not considering any increase in interest rates, but was open to cut rates if domestic demand weakens and inflationary pressures weaken.

The kiwi dollar weakened in the wake of the news citing this as a sign NZD-negative interest rate cuts could be implemented in coming months.

"They focussed on downside risks and specifically that the NZD, on a trade weighted basis, was over-valued and unwelcome at these levels. This has had more effect on the likes of AUD/NZD which looks set to extend gains away from parity," says a currency market note from Lloyds Bank following the decision.

We see the following levels on offer:

• The pound to New Zealand dollar exchange rate (GBP-NZD) is trading at 2.030.
• The euro to New Zealand dollar rate (EUR-NZD) is at 1.4734.
• The New Zealand to US dollar exchange rate (NZD-USD) is at 0.7621.

All currency quotes mentioned above refer to the wholesale market. Your bank will affix a discretionary spread when transferring money internationally.

However, an independent provider will seek to undercut your bank's offer, thereby delivering up to 5% more currency in some instances. Please learn more on how this is achieved here.

Soft Data Undermines the NZ Dollar pre-OCR

Ahead of the RBNZ decision the kiwi dollar was stung by some less-then-flattering economic data.

ANZ New Zealand Business Confidence dropped to a reading of 30.2 in April from 35.8 in March, the lowest since October.

The RBNZ’s Official Cash Rate review will dictate direction for the New Zealand currency heading into the new month and decisions made here will largely be made based on such business confidence surveys.

The OCR is essentially where the decision makers at the central bank set interest rates and communicate the direction they see rates headed according to the state of the economy.

Another question for NZD watchers is whether the RBNZ reckons their currency is overvalued; particularly against the Australian dollar which we have been warning is headed towards parity.

Recent utterances from the second in command at New Zealand's central bank suggest that changes could be in the air with a move away from the currently pro-NZD settings that are in place. 

Will the NZD be Shocked Lower?

Will the RBNZ cut interest rates in an attempt to lower the exchange rate and thus boost the export economy?

The ANZ Business sentiment readings tells us the economy is now starting to show signs of strain and the RBNZ could pre-empt weakness by lower rates.

This has the impact of boosting lending while pushing down the value of the NZ dollar.

Spiros Papadopoulos at NAB says it is still to early for such a move to take place; “no-one should expect any easing from the Bank in the near term, least of all at this week’s meeting. Much still depends on the data over coming months, probably quarters, especially around inflation.”

If the RBNZ agrees with this view look for a stronger NZD.

However, some currency market watchers are cautious that the NZD could fall as the RBNZ has been hinting lately that it is turning direction in its view on the NZ economy and could thus take action.

Central bank action such as rate cuts or money printing is an unambiguous negative for a currency.

Reserve Bank Assistant Governor, John McDermott, last Thursday told markets in a speech that the Bank could be wriggling towards an easing bias from the solidly neutral tone of the 12 March Monetary Policy Statement.

Any hints at an overvalued currency and the potential for interest rate cuts could well sink the New Zealand dollar.

That said, we note analysts remain confident that any aggressive action remains some way off.

That doesn't mean the RBNZ won't take the opportunity to simply talk the strong NZD lower by dropping hints of future action if matters do not improve.

So for the NZD the outlook could well be determined by these subtle communications from the RBNZ.

This is obviously a difficult hand to play for those watching the currency markets with NZD payment requirements.

We would suggest adopting a wait-and-see approach going into Thursday as a result.