by Eric Frykberg
But it will not be without risk if the fall cements in a sustained lower value for the Kiwi.
At issue is the slide of the NZ dollar below a milestone 60 US cent mark for much of Wednesday.
This happened after inflation in the United States turned out to be worse than expected: 8.3% in the 12 months til August.
That led investors to climb into the US dollar in anticipation of higher interest rates imposed by an inflation-averse Federal Reserve. That demand pushed up the US dollar and pulled down other currencies when measured against it.
In forcing the New Zealand dollar down to a level last seen two years ago and way below the average for the past ten years, this trend appeared to raise the possibility that imported goods paid for in American dollars would cost the New Zealand public more.
That in turn would push up inflation here overall, make the Reserve Bank feel very nervous, and perhaps propel banks to make everyone pay more for their mortgages.
But Gordon sounds a note of caution, saying it is too soon to draw a conclusion. He says that is because a small fall in the exchange rate has a limited impact on inflation by itself.
“There is about a ten-to-one relationship between the exchange rate and inflation. So a sustained 10% drop in the exchange rate would add about 1% to the inflation rate for a year.”
Clearly, the latest fall below $US0.60 doesn't come close to meeting that threshold. But he points out that over time, there has been a significant drop in the Kiwi, which was over $US0.70 less than a year ago.
So what impact would this have on interest rates?
“Whether it moves the Reserve Bank in terms of prompting them to take the Official Cash Rate even higher, well, it is making things more challenging for them but they do not have a mechanical response to it.
“It may have some influence but it is not the primary source of inflation that they worry about.”
The BNZ economist Craig Ebert agrees that in and of itself the latest fall in the dollar is fairly marginal.
“But overall, it doesn't help and it does reinforce an inflationary picture, because a lot of it is coming from abroad. About half the CPI is exposed to global inflation forces, so it does contribute to the potential for inflation to persist at a high level.”
But Ebert points out his team have been predicting a dollar at this level for some time, so they are not adjusting their forecasts based on this development.
He adds the impact of exchange rates on inflation has to be assessed against the Trade Weighted Index of the currencies of countries that New Zealand trades with, not just against the USD dollar, which he says is gaining against many other currencies, not just the New Zealand dollar.
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