New Zealand's central bank threatened on Thursday to cut interest rates further because a strong currency was putting the fragile economic recovery at risk, sending the kiwi down sharply.
The Reserve Bank of New Zealand (RBNZ) issued the latest warning after leaving its policy rate at a record low 2.5 percent for a second month, as expected. It also repeated a pledge to keep the rate low until late next year to help lift the economy out of its worst recession on record.
The New Zealand dollar fell almost a cent to $0.6477 after the announcement before steadying at around $0.65. Analysts said the RBNZ was clearly worried about the threat from the strong NZ dollar, noting officials' recent efforts to talk the currency down, but saw a further rate cut as counter-productive.
'While the threat of further rate cuts in NZ lingers, we doubt if the RBNZ will exercise this bias even if the New Zealand dollar strengthens further,' said RBC Capital Markets senior economist Su-Lin Ong.
RBNZ Governor Alan Bollard said in a statement after the rate decision that the economic recovery looked patchy and needed easier financial conditions to make progress. 'If this easing does not occur, the forecast recovery could be put at risk,' Bollard said. 'In these circumstances we would reassess policy settings'.
The kiwi has gained 30 percent against the U.S. dollar to a nine-month high of $0.6635 since early March on improved investor risk appetite as optimism for a global economic recovery grew.
Exports account for about a third of the economy, leaving it highly vulnerable to foreign exchange rate movements.
'We think that the bank's threat to ease policy settings further in response is nonsensical,' said Deutsche Bank ( DB - news - people ) chief economist Darren Gibbs.
'We think that overstimulating the domestic economy is a recipe for near-term currency strength, not weakness.'
The yield on the September day bank bill contract slipped two basis points to 2.76 percent.
Two-year swaps spiked 16 basis points before the statement on expectations the RBNZ would give a more optimistic outlook for the economy. But swaps gave up early gains after the news, falling to opening levels of 3.92 percent.
In the money market, swap rates are signalling the RBNZ's next move will be a rise in the first quarter next year.
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INTERVENTION UNLIKELY?
Policymakers, including Finance Minister Bill English and Bollard, have repeatedly highlighted the urgent need for a weaker kiwi to boost exports, which have struggled amid the stronger currency and a severe slump in global demand.
Fonterra Cooperative Group, the world's biggest dairy exporter, has cut its forecast payout to farmers for this season because of the strong currency and weak prices.
The RBNZ's preferred currency measure is the trade weighted NZ dollar index, which is around 10 percent ahead of the the bank's forecasts made in June.
But at 61, the current level of the index was close to long-run average of 60.8, keeping analysts sceptical about the risk of any central bank intervention to weaken the kiwi.
'They don't intervene very often and their policy is only to intervene at the extremes,' said Westpac senior strategist Imre Speizer. 'I don't expect to see them until the currency gets much, much higher...may be above 75 cents'.
The RBNZ intervened in June 2007 for the first time since the currency was floated in March 1985. At that time, the kiwi was around $0.81, a level which the bank said was 'exceptional and unjustified in terms of the economic fundamentals'.
The central bank has chopped its key rate by a massive 575 basis points to 2.5 percent since July 2008 to boost the economy.
Analysts expect the RBNZ to keep its key rate at 2.5 percent at the next review on Sept. 30. A Reuters poll after Thursday's decision showed 12 of 13 economists expect no change at the review, and will largely remain at the same level at least until the first quarter of 2010. See
Expectations that the central bank will keep rates steady have hardened as more data has pointed to further stabilisation in the economy.
An influential survey this month showed business confidence has risen from a 35-year low in the second quarter, while house sales and prices have picked up, and migration gains are rising.
New Zealand has been in recession since the start of last year, the longest contraction in more than 30 years, with mmodest growth starting to emerge by the end of the year.