Further Downside Ahead For The New Zealand Dollar After Latest Election Polls

Latest polls mark a continuation of a summer-long trend and raise the spectre of RBNZ reform and a host of other risks.

There could be further downside ahead for the New Zealand Dollar, even after Thursday's fall, after the opposition Labour Party pulled ahead of the incumbent National Party in the latest polls, bringing the spectre of RBNZ reform and a host of other risks back to the fore.

The latest News/Colmar Brunton opinion poll showed the opposition Labour Party pulling ahead of the incumbent National Party as Kiwis get set for a September 22 general election.

A Labour coalition could mean a dual mandate for the RBNZ incorporating a full employment target alongside the traditional inflation target, an NZ wide clampdown on immigration and the possibility of a longer term slowdown in growth according to economists.

“Since 17 Aug, when the first poll showing Labour’s resurgence was released, the NZD has underperformed all major currencies apart from the yen,” says Sean Callow, a strategist at Westpac Banking Corp. “Suffice to say uncertainty until then [Sept 22] should manifest as a negative for the NZD.”

The Kiwi Dollar dropped 0.25% to 0.7232 against the US Dollar while the Pound-to-New-Zealand-Dollar rate gained a similar amount, rising to 1.8257.

Labour has retaken the lead and remained on the front foot since new party leader Jacinda Ardern took over in July and the incumbent National Party government softened its proposals on immigration controls in August.

The Immigration Key & Conundrum

Based on the latest poll, a Labour government could command a 61 seat majority in a Green Party coalition rather that the Labour-New Zealand First (NZF) coalition that was previously the only viable outcome for the party.

The shift matters in the broader term because, although both Labour and New Zealand First have pledged a crackdown on immigration, NZF is pushing for a much more aggressive clampdown than any other contender on the field.

“We expect the NZD to be most vulnerable in a scenario where NZ First is seen as part of the ruling coalition," says Jonathan Koh, an economist at Standard Chartered. "Its proposals to sharply cut immigration may hurt the NZD via lower real yields on a weaker growth outlook. Furthermore, the party has called for stronger measures to tackle currency strength.”

Cutbacks to the number of migrants entering the country will reduce nominal GDP growth in the first instance and further erode real GDP growth given the inflationary impact of the wage boost that could be expected to follow in the footsteps of such cuts.

“If the possibility of a government formation without NZ First’s support increases (due to a single party gaining absolute majority or other minority parties like Greens or Māoris gaining ground), this could offer some relief to the NZD,” Koh wrote in a recent note.

Labour want net migration reduced by 20,000-30,000 from its recent record high of 72,000 while NZF want the number cut much more sharply, down below 10,000.

“Slower growth and a reduction in the output gap may lead to slower inflation in the long term, leading to a risk of the RBNZ adopting an accommodative stance to stimulate growth,” says Koh.

RBNZ, The Rate Path & Reform

All three of the largest parties are pushing for reform of the Reserve Bank of New Zealand rate setting process, with decision making set to shift from the sole governor to a committee of policy makers.

With the governor of the Reserve Bank of New Zealand set for a changeover in 2018, all three largest parties pushing for reform of the rate setting process and Labour advocating a full employment target, - market attempts at pricing future policy moves could become increasingly complicated.

“Given that the economy is at full employment, a dual mandate may provide the central bank an opportunity (or a reason) to hike rates even though the inflation target has not been met yet,” says Koh.

The RBNZ cut the cash rate seven times between June 2015 and the end of 2016 but more recently, with the economy picking up, markets had begun to consider an eventual unwinding of the bank’s stimulus.