A Speculator's Dream
money markets / policy - 17 February 1993
George the New York speculator, tired after a day of super profits punting the Irish currency, settles down for a night’s sleep. Dreaming of no sin but to be rich, his avaricious fantasy soon focuses on NZ. That economy, he muses, has attracted an inordinate amount of press in recent years as the economic reforms have been predicted by their proponents as destined to deliver an economic miracle no less. He dreams on ...
Already reports are coming in of NZ’s recovery. But at the centre of the trend is a domestic economy George dreams, running faster than its export earning capability. The housing market has leapt into life, confidence is at a 20 year high, the building industry is trembling with anticipation of the long promised economic recovery, Christmas sales were the most buoyant for six years, employment is picking up and the politicians are simply ecstatic that this election year should begin so auspiciously.
The market forms the view that the BOP deterioration is likely to continue, with the deficit forecast to be out at $3 bn within 6 months. They decide the currency’s overvalued. As the market moves to a net sell the RBNZ intervenes citing that NZ’s inflation outlook is above their mandated target. They push interest rates up.
The magnitude of BOP trends is such that the capital markets really believe a currency fall is required, rather than a high interest rate-induced compression of domestic demand. The RBNZ’s insistence that any real exchange rate fall must occur via NZ securing lower inflation than others, only heightens market concerns over the future of NZ businesses.
George salivates. To him, the Kiwi situation is a godsend. He and his mates pile in, selling the Kiwi short. The RBNZ responds by raising domestic interest rates even higher. Overnight call rates reach 50% and the mortgage rate soars to 15%. Suddenly, the tenor of the policy debate changes. Politicians, preparing for November’s election are getting irate elector reaction, and question whether terminating the domestic recovery is a necessary adjunct to maintaining price stability.
Finally the RBNZ concedes it’s failed to recognise that the exchange rate pressures are “fundamental”, rather than the result of the “one-off” influences like the Australian dollar machinations they’ve been blaming. They admit there’s been an exchange rate “shock” in the form of a steady loss of market confidence in NZ economic fundamentals, which a high interest rate policy of domestic economic suppression has failed to quell. The short selling speculator celebrates yet another profitable victory over cental bank fixed currency rules, while the NZ economy tries to pick itself up from the interest rate earthquake that’s knocked it from recovery road.
$50 million richer George awakens, saturated in rapacious perspiration. In the cold light of day he realises he couldn’t repeat on the Kiwi the type of victory he’s had over numerous European central banks. The RBNZ would recognise a BOP-induced currency sell-off as an external “shock” and allow the exchange rate to fall - wouldn’t they?
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