Searching the horizon

Looking forward, the long-term outlook is not favorable for the antipodean currencies. Tighter monetary and fiscal policies globally are likely to slow global demand for Aussie and Kiwi commodity exports as well as lower commodity prices in general. With current account imbalances unlikely to correct significantly over the next several years, the expected compression in interest-rate differentials will undermine the value of the AUD and NZD on reduced demand for locally denominated deposits and bonds.

Given the regional popularity of AUD/JPY and NZD/JPY carry trades, monetary tightening in Japan may have a strong negative impact on antipodean currency value. The Bank of Japan will eventually end their zero interest rate policy (ZIRP) and begin lifting rates as soon as Q2 2006.

Another factor likely to weigh heavily upon interest-rate differentials and local currencies is housing prices. Much like circumstances in the U.S. and UK, real estate prices in urban and vacation areas have soared over the past five years. The housing market and the risk of a downward destabilizing correction appears to be a policy consideration at the respective central banks.

The problem is most pronounced in Australia, although New Zealand and Australian interest rates tend to be positively correlated. While new home sales and real estate continue to rise, the RBA will be reluctant to cut interest rates despite tepid consumer price inflation. Once the real estate sector begins to cool, the RBA will have greater policy flexibility and could begin cutting rates.

Whereas the near-term outlook is positive for the antipodeans, the longer-term outlook looks increasingly negative, dependent upon the compression of interest-rate differentials over the next two years and the extent of the impending slowdown in global growth.

Of particular note is the variable outlook of the AUD and NZD against the majors. The much anticipated decline of the USD against emerging Asian currencies in general and the Chinese yuan (CNY) in particular has yet to materialize. It’s assumed China will continue to intervene to keep currencyappreciation in check. If it curtails its currency intervention, the AUD and NZD might find another source of support.