11 Jun 2011

Markets overreacting, says Reserve Bank head

1:15 pm on 11 June 2011

As the kiwi hit another record high on Friday, the Governor of the Reserve Bank said he was surprised at the response of the financial markets and believed they were over-reacting.

The New Zealand dollar peaked at 82.97c against the US currency early on Friday morning - its highest level since it was floated in March 1985 - before falling back slightly.

Governor Alan Bollard told Morning Report it seemed markets viewed the bank's forecast for the New Zealand economy, released on Thursday, as a little stronger than they had expected, which indicated something was not being interpreted correctly.

"If that forecast results in an increase in the dollar," he said, "then that means we've got less need to increase interest rates late this year or early next year, therefore there's a softer monetary policy track. So somehow it doesn't quite add up."

Dr Bollard says the markets have over-interpreted the desirable strength of the dollar.

He says the bank's view is that the economy is doing a little better but the timing of any OCR rise depends on data through this year and next.

Dr Bollard says the higher dollar reflects high commodity prices, but nevertheless hurts parts of the economy.

Farmers and exporters to Australia have done well, he says, but others, including exporters of non-primary produce in US dollars, have not. The tourism sector is "hurting a lot".

Any drop in the dollar , Dr Bollard says, would mostly depend on overseas factors, in particular a recovery of the US economy.

PM also surprised

Prime Minister John Key says he also is a little surprised at the jump in the value of the dollar but says the currency is in uncharted territory, due to the weak US economy and good economic fundamentals in New Zealand.

Mr Key says the economy may have to get used to a strong dollar for a period of time.

He says he also has some concerns about the impact on tourism. Mr Key, who is also Tourism Minister, says when the dollar is high tourists spend fewer New Zealand dollars during their visit.

The currency's rise followed the Reserve Bank on Thursday saying the outlook for the New Zealand economy had improved.

The bank's forecast in March had implied the Official Cash Rate (OCR) would begin rising from early 2012, while the forecast on Thursday implied it would start going up later this year.

High dollar 'will cost jobs'

Manufacturers are warning the strength of the New Zealand dollar will soon be paid for in lost jobs.

Bruce Goldsworthy of the Employers and Manufacturers Association (Northern) says some firms will be forced to lay off staff if the currency continues its strong run.

The Council of Trade Unions (CTU) says the Reserve Bank should keep interest rates lower for longer or risk a renewed downturn.

CTU economist Bill Rosenberg says no stimulus is coming from the Government this coming year so the economy is relying on monetary policy for stimulus to maintain production and employment levels.

He says there is too much reliance on projections of reconstruction activity in Christchurch to lift the economy.

But BNZ economist Stephen Toplis says inflation is a potential problem and interest rates must rise sooner or later to keep a lid on rising prices.

He says inflationary pressures are coming from rising food and commodity prices and increasing insurance, electricity and building costs.

Mr Toplis says despite the economy being only in the early stages of recovery, firms are already indicating a shortage of skilled labour, which he says will mean higher wages, adding further pressure.