It has always amazed and surprised me that the largest contributor to low and stable inflation in New Zealand, strong competition in industry sectors, never rates a mention in the quarterly Reserve Bank of New Zealand Monetary Policy Statements. The RBNZ economists dissect the economy ad-infinitum in those statements; however there is never any commentary or recommendations on the level of competition in the economy.

The discipline of unfettered competition in any marketplace always delivers low and stable prices as anyone game enough to increase prices runs the risk of losing sales to a competitor. If the RBNZ are the real guardians and custodians of low inflation in New Zealand one would expect that they would take an active interest in economic policies that both promote competition and remove restrictions to open competition. Part of their monetary policy management mandate should be to make recommendations to Government about eliminating uncompetitive behaviour and practices. Unfortunately, you never see the RBNZ taking a strong public stance on this subject. In my view they are subrogating their major responsibility of controlling and maintaining low inflation in the economy by ignoring the largest factor that keeps inflation low. They may retort that their job is to influence the economy through interest rates to keep inflation low and they can do no more than that. That is a very narrow view of their role and responsibility.

So what is the state of competition in the New Zealand economy? A recent research survey by the Electricity Authority found that consumers these days think they benefit from robust competition in both the telecommunications and banking sectors. It did not use to be that way in these two sectors, thanks to new entrants like 2 degrees in mobile phones and Kiwibank in banking the previous cosy pricing environment by the established players has been broken open. However, the consumers surveyed did not see the same competition ensuring pricing discipline in the electricity and petrol station markets. Part of the answer is that the competing retailers in these industries buy from single sources with fixed cost structures. The lack of real competition on the electricity market has seen consumer electricity prices rise constantly over the last 10 years and thus contributed considerably to CPI inflation increases. Unless we find a cheap source of natural gas close to the major cities very soon, it seems our electricity prices will continues to increase as the up-front cost of renewable generation, like wind turbines, is well above other energy sources.

Economic policy initiatives for more competition in telecommunications and banking sectors have worked to bring down prices, why isn’t the RBNZ petitioning Government harder to get greater competition in the energy industries? Less reliance on hiking interest rates to contain inflationary pressures and more focus on competition in the economy by the RBNZ would reduce the collateral damage on our export industries when the NZ dollar lurches upwards due to rising interest rates.

NEW ZEALAND DOLLAR MARKET COMMENTARY

Stunning Kiwi dollar rebound – how sustainable is it?

Instead of stabilising at the lower levels around 0.7500/0.7600 as anticipated, the NZ dollar has put in a stunning rebound performance to climb back above 0.8000 over this past week. The Australian dollar led the NZD down from 0.8800 to 0.7500, and it has again been the Aussie dollar that is behind the five sent bounce back upwards.  It is too early to say whether the reversal in direction of the AUD against the USD (up from 0.9600 to $1.0350) is permanent in nature or merely profit-taking by speculators on the earlier plummet.

Certainly, global commodity prices have rebounded strongly over recent days as more confidence comes back into commodity and equity markets around the world in expectation that the European debt problems can be solved. That high market expectation for European leaders are set to announce solutions at next Sunday’s summit meeting does appear to be more wishful thinking than reality. European Government and financial leaders have not found workable solutions to contain and reverse the sovereign debt crisis over the last 18 months, why would they suddenly have the miracle answers now? The rest of the world have much more pressure on the Europeans to take action now, however the solution to high deficits and too much debt can never by anything else but years of austerity, lower Government spending and higher taxes. The tax increases make economic growth harder to achieve, so the answer is always a slow, hard grind to recovery and debt reduction. The lift in markets last week appears to have ignored the enormity of that sole solution. 

The EUR/USD rate has also reversed from $1.3200 to $1.3800 as European hopes lifted and the international investor sentiment turned to “risk-on” mode. Just how sustainable this more positive market sentiment is, is a debatable point? It appears that the markets could be setting themselves up for major disappointment if they think that the European leaders are going to deliver all the solutions over the next two weeks. Nothing has changed with the lower global economic growth outlook, therefore this latest increase in commodity prices does not appears to have much substance behind it. The Euro-zone economy is headed for much lower growth outcomes, potentially back into recession. Chinese inflation now appears to be in check, so no strong reasons for the People’s Bank of China to tighten monetary policy any further. Perhaps this change has given some renewed confidence to commodity markets. 

As always, the near-term direction of the NZD/USD exchange rate will depend heavily on the AUD/USD rate, the EUR/USD rate, global commodity prices and world equity market direction. Given the impressive gains in all those lead indicators over the last week, it will take some spectacular new/fresh positive economic news to push them further higher. It is difficult to see what that additional positive factor could be. The balance of probability from here has to be general market disappointment at progress out of Europe and the NZ dollar giving back its recent gains. Locally, the economic news has not been too favourable (apart from an impressive All Black’s victory over the Aussies to progress to the Rugby World Cup final). Manufacturing performance has deteriorated and the Government’s finances have also deteriorated as the earthquake costs continue to increase. 

Thin, illiquid NZD foreign exchange markets with many of the global investment bank players withdrawing from the market over recent weeks, is exaggerating intra-day and inter-day movements currently. Chinese economic data in the form of industrial production and GDP figures tomorrow (Tuesday) will be the short-term focus of the currency markets. Any signs of weakening trends will send commodity prices and the AUD lower. 

USD exporters should now be holding off from further hedging activity after entering cover at the lower levels; importers need to be topping-up their hedging percentages (particularly in the 0-6 month bucket).