At the risk of sounding like a broken record, it just has to be repeated that it appears to me that the majority of economic forecasters are completely underestimating the likely GDP growth rates we will achieve in New Zealand this year.
The risk of the RBNZ underestimating stronger economic growth is a real one with monetary policy adjustments later in the year likely to be made too late and therefore too severe as they catch up. In my humble (and sometimes mumbled!) opinion, the evidence continues to mount of GDP growth coming in well above current forecasts.
Consider the following recent developments to support my argument:-
§ The view from various local economists is that the debt/recession problems in Europe is a major “headwind” for the NZ economy this year is just a load of “codswallop and hogwash”! Our export trade with Europe is in the minor class and it is all food related that has not turned down. Where is the evidence that the recession in Europe is dragging the global economy (US and China) down? Latest US and Chinese economic data is stronger, not weaker.
§ Agriculture production is through the roof with the fantastic weather conditions for grass growth over the last six months. Farmers are well past repaying debt to keep the bank manager happy, they are now spending and investing (i.e. applying fertiliser) their cash surpluses from my observation.
§ Apparently the RBNZ are currently relaxed about the current inventory shortages and price increases in the Auckland residential property market (in terms of threats to medium term inflation). History tells us that the RBNZ wake up too late on property market up-cycles.
§ Business investment is up, bank credit growth is on the up again, manufacturing is expanding again in line with global PMI improvements and there are early signs that the long-awaited recovery in residential property construction is finally commencing.
All adds up to +3.00% annual GDP growth over 2012. There are only two headwinds in front of the NZ economy right now and both should have been risk managed in advance to reduce the negative impact. The NZD/USD exchange rate above 0.8000 hurts exporter profitability and increased bank credit margins (bank cost of funds) from the European fiasco being passed through to household and corporate borrowers.
Outside of these two irritations, the economic fundamentals for New Zealand are in very good shape.
NEW ZEALAND DOLLAR MARKET COMMENTARY
Kiwi dollar strength justified on relative price comparisons
The NZ dollar has posted strong gains against the USD over the past two months, from 0.7500 in late November to 0.8330 currently. Consistent with the majority of the movements up and down in 2011, the Kiwi dollar has been driven by external international factors and developments rather than domestic New Zealand economic changes.
The reality of today’s global economic environment is that exchange rates are relative prices, and relative to the rest of the world which has some economic problems and challenges, the NZ economic position and performance appears to outsiders to be both more stable and more robust. Hence demand by global investors to have some of their funds parked in the safer NZ dollar currency. The increase in the all the NZD cross-rates over recent weeks is clear evidence of this re-rating higher of the NZ currency at this time.
The market forces behind the NZD appreciation, particularly since early January, have been as follows:-
§ Stronger than expected economic data out of China (GDP growth, industrial production and PMI manufacturing Indices) causing AUD and NZD buying by international hedge funds and currency traders as they continue to see these commodity/growth currencies as a proxy trade for China.
§ Strong gains by the US Dow Jones sharemarket Index as the outlook for growth in the US economy continues to improve. Equities being preferred over bonds by hedge fund investors in 2012 after the strong gains by bonds (yield decreases) in 2011. The NZD/USD exchange rate remains highly correlated to the “risk-on/risk-off” sentiment and swings in the Dow Jones Index.
§ The US sharemarket was given another boost two weeks ago with the pledge from the Federal Reserve to maintain US short-term interest rates at the record low levels until 2014. Lower for longer US interest rates was seen as negative for the USD itself in currency markets. Stronger than expected US jobs data in January released on Friday 3 February provided further fuel to the sharemarket gains.
§ A rebound upwards in Performance of Manufacturing indices around the globe (including New Zealand) over the past two months has spurred hard and soft commodity prices higher. Wholemilk powder prices have stabilised over recent weeks in the Fonterra on-line Global Dairy Trade auctions. Many currency traders see this commodity price as a key lead indicator for the NZ economy i.e. we are one big dairy farm! The AUD continues to track copper prices as a lead indicator, and we continue to follow the AUD.
The brief assessment of the NZ economy by RBNZ Governor, Alan Bollard at the 26 January OCR review was not as downbeat as many local economic commentators had expected. Increased agriculture production, delayed but lifting construction and improving manufacturing point to +3.00% annual GDP growth for New Zealand for 2012 in my view, well above most other forecasts. If the stronger growth materialises into reality over the first nine months, the RBNZ will be forced to start increasing interest rates in September. That adjustment to monetary policy settings would be positive for the NZ dollar. However, should the NZD/USD exchange rate remain well above 0.8000 in 2012, the GDP growth will not be as high as +3.00% as exporter returns would be impaired. The preferred forecast track is for stability in the 0.7700 to 0.8200 range until September and then higher.
Whilst the NZD has arguably raced up too quickly over recent weeks, the probabilities of dips back to 0.7500/0.7600 have to be viewed as much less today than what was seen in the second half of 2011. The major risk to the stable/positive NZD currency outlook is weaker than expected Chinese economic data, the NZD and AUD would certainly be sold heavily on such news. Whilst official Chinese economic growth statistics are still very positive, anecdotal evidence (e.g. steel production volumes) suggests that activity levels have slowed considerably.
The European debt crisis and economic recession is not having any great impact on the NZ dollar or the NZ economy. Local commentators who highlight the problems in Europe as a major headwind for the NZ economy this year appear to be misreading the situation entirely. China is much more important for us. The EUR/USD exchange rate is stabilising around $1.3000, however low growth and low interest rates in Euroland point to a weaker Euro exchange rate over the course of this year. It is hard to see the NZD/EUR cross-rate retreating back from the higher 0.6300 level unless the NZD is sold on its own due to weak Chinese economic data.
The Reserve Bank of Australia yesterday unexpectedly left their official cash rate unchanged which may result in further upside risk to the A$ against the US$ in the immediate term. The result may underpin the strength of the NZD vs the USD over coming days.