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Market reaction to news that US inflation may have peaked opens door for further strength in the New Zealand dollar, with ANZ economists saying they expect a gradual appreciation in value over the next few months.
The New Zealand dollar was one of the big winners from a strong market reaction to US inflation reporting 0% m/m in July, as the currency rose in line with global stock markets and other other “high beta” currencies.
This reaction is in line with ANZ’s view that global markets are currently very sensitive to developments in the US and therefore what happens there is likely to remain the main driver of the New Zealand Dollar.
“The slight additional strength in NZD should close the gap to fair value in the FX space,” said David Croy, senior strategist at ANZ.
“Markets have been extremely US-centric lately, and US themes have driven price action. We don’t see that changing anytime soon,” he adds.
US inflation stabilized in July and suggests a turning point may have been reached, causing markets to revise their expectations for the number of interest rate hikes likely to come out of the Fed.
This supports the global economic outlook as it suggests that the recent rise in the cost of money driven by Fed hikes may be about to fade, which in turn supports the New Zealand dollar and d other assets sensitive to global investor sentiment.
“If US inflation proves to be more persistent and the US Federal Reserve (whose policy rate is already at the same level as the RBNZ’s OCR) is forced to increase more aggressively, and that leads to a further surge in risk aversion, USD strength could return,” Croy said.
Croy’s comments came ahead of Wednesday’s US inflation release and the New Zealand dollar’s reaction confirmed his view that US inflation will be a key driver of the US dollar and other global currencies.
Above: ANZ’s New Zealand CPI inflation forecast.
Domestic considerations meanwhile support the New Zealand dollar, according to ANZ, including New Zealand’s much higher bond yields and relatively low levels of government debt.
The Reserve Bank of New Zealand plans to raise interest rates to 4.0% by the end of the year, where they will stay.
This contrasts with the US and UK where markets are forecasting lower interest rates in 2023 as their respective central banks react to a sharp slowdown in economic activity.
Above: ANZ’s predictions for the RBNZ OCR
This interest rate profile will likely support the New Zealand dollar. Indeed, ANZ’s forecast calls for a gradual strengthening of New Zealand through the end of the year as it closes the gap with their measure of fair value against the US dollar.
According to ANZ forecasts, the NZD/GBP exchange rate should end 2022 at 0.51, before appreciating further to 0.52 by the end of March 2023 and 0.52 by mid-2023.
This gives a forecast for the exchange rate between the British pound and New Zealand (GBP/NZD) of around 1.96 and 1.92 for the periods above.
NZD/USD is forecast at 0.63, 0.64 and 0.65 respectively while NZD/EUR is forecast at 0.60, 0.60 and 0.59. This gives a Euro to New Zealand Dollar (EUR/NZD) exchange rate of approximately 1.66, 1.66 and 1.6950.
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