The New Zealand dollar has remained strong over the course of 2012 despite a sharp fall in the prices for NZ’s commodities.  The NZ dollar (NZ TWI) has risen 6.6% over the last year whilst prices for NZ’s commodities have fallen by 14.0% (ANZ Commodity price Index).  The Reserve Bank highlighted this differential at its recent monetary policy meeting stating that if the New Zealand dollar remained high all else being equal it would reassess its outlook for monetary policy; we interpret as they may need to reduce interest rates.  Part of the reason for the fall in commodity prices has been a boost in production in response to high prices and due to good farming conditions in New Zealand; Fonterra reported a 10% increase in production.  However, the boost in volumes has not been enough to offset the fall in value with the latest trade figures showing the value of exports of dairy products falling 14.4% in March 2012 versus March 2011.

Unfortunately a fall in commodity prices in $NZ terms removes one of the stronger and more sustainable drivers of growth in the economy.  The strength of the $NZ is largely due to weakness in other developed countries.  In comparison to most developed economies NZ is a very good place to be.  We have relatively low levels of government debt, relatively high interest rates and relatively low unemployment (although the latest figures show that this has started to increase).  Better still is Australia where even after their recent 0.5% cut the cash rate is 1.25% higher than NZ’s.   As alluded to above falls in our commodity prices may see our economy weaken and require interest rates to fall which would take away some of the support for the $NZ.  As always given NZ’s large current account deficit with the rest of the world changes in sentiment toward NZ could see the currency fall quite sharply.       

Jonathan Windust