If you’ve seen the Lord of the Rings, then you probably know that Middle Earth is located somewhere along the hills of New Zealand.
More than being home to Frodo Baggins and his hobbit friends, New Zealand is also one of Australia’s next-door neighbors in Oceania, the Southern region of the Pacific Ocean.
The country is made up of two main islands, the North Island and the South Island, and several smaller islands.
Famous for hosting a larger population of sheep than people, New Zealand is home to about four million residents. To put that into perspective, New York City alone had a population of 8.4 million people.
New Zealand is also known as Aotearoa, which means “Land of the Long White Cloud” in Maori, one of the major languages in the country.
With its teeny-tiny population, New Zealand’s economy is also relatively small. Its GDP, which is valued at 203 billion USD in 2018, ranks 51st among the world economies.
But don’t underestimate New Zealand… This country makes up for its size by being a strong player in trade!
Their economic activity is largely dependent on trade, mostly with the Land Down Under (Australia), the Land of the Rising Sun (Japan), and Uncle Sam (U.S.).
It is an export-driven economy, with its main exports such as ores, metals, and wool comprising a third of its GDP. It also exports much of its cattle and dairy products. Angus beef sound familiar to you?
Its primary industries are agriculture and tourism, and they only have small manufacturing and technology sectors.
Because of that, its imports from other countries comprise mostly of heavy machinery, equipment, vehicles, and electronic products.
Since the country has removed many barriers to foreign investment, the World Bank has praised New Zealand for being one of the most business-friendly countries in the world, second to Singapore.
The Reserve Bank of New Zealand (RBNZ) is in charge of the monetary and fiscal policy of the nation.
Currently headed by Governor Alan Bollard, the RBNZ holds monetary policy meetings eight times a year. The RBNZ is tasked with maintaining price stability, setting interest rates, and monitoring output and exchange rates.
To achieve price stability, the RBNZ must ensure that annual inflation meets the 1.5% central bank target… otherwise, the government has the right to kick the RBNZ Governor out of office (We’re not kidding).
The RBNZ has the following tools in its monetary policy arsenal:
The official cash rate (OCR), which affects short-term interest rates, is set by the RBNZ Governor.
By lending 25 basis points above this rate and borrowing at 25 basis points below the OCR to commercial banks, the central bank is able to control the interest rates offered to individuals and businesses.
Open market operations are used to meet the cash target or the amount of reserves parked in commercial banks.
By forecasting the cash target daily, the RBNZ is able to calculate how much money to inject in the economy in order to meet the target.
The New Zealand dollar is nicknamed “Kiwi.”It’s a bird! It’s a plane! No, wait, it’s really a bird.
The Kiwi also happens to be the national symbol for New Zealand… but let’s focus on the Kiwi as a currency and its interesting characteristics.
Since New Zealand’s economy is mostly dependent on its exports of commodities and agricultural products, the overall economic performance of the region is linked to commodity prices.
If commodity prices rise, then the amount of money paid for New Zealand’s exports also rises, which then makes a larger contribution to the country’s GDP. Since a higher GDP reflects a strong economic performance, it could lead to an appreciation of the Kiwi.
Conversely, falling commodity prices result to lower monetary value of exports, making a smaller contribution to GDP. A lower GDP could then cause the Kiwi to depreciate.
Since Australia is New Zealand’s number one trade partner, the economic performance of Australia has a huge impact on New Zealand’s.
For instance, when the Australian economy does well, Australian firms pump up their importing activities and guess who benefits from that? New Zealand, of course!
Just like Australia, New Zealand enjoys higher interest rates compared to other major economies, such as the U.S., the U.K., or Japan.
Interest rate differentials between economies often serve as indicators of money flows.
Since investors prefer to receive higher returns, they’d sell lower-yielding investments in exchange for higher-yielding assets or currencies. In other words, the higher the interest rate, the more money flows in.
Because New Zealand’s population is less than half the number of people living in New York City, an increase in migration into the country has a huge effect on the economy. This is because as the population grows, the demand for goods and overall consumption increases.
New Zealand’s economy is also largely driven by its agricultural industry, which means that severe weather conditions such as droughts have a huge negative impact on their entire economy.
Those heatwaves are also prevalent in Australia, which is more frequented by forest fires, costing close to 1% of its GDP in damages. This doesn’t do the NZD any good…
Gross Domestic Product – Just like any other nation, the gross domestic product (GDP) serves as an economic report card for New Zealand. By serving as a gauge of overall economic performance for New Zealand, it influences the demand for the NZD.
Consumer Price Index (CPI) – The consumer price index measures the change in price levels. As a measure of inflation, it is closely watched by the RBNZ in determining changes in monetary policy. They’re supposed to maintain price stability, remember?
Balance of Trade – Since New Zealand is an export-driven economy, traders often take a look at their trade balance to gauge the international demand for New Zealand’s products.
Positive GDP growth reflects the strong economic standing of New Zealand, boosting demand for its currency. Negative GDP growth highlights the poor economic performance of the country, dampening demand for the NZD.
Higher demand for New Zealand’s products often results to a higher GDP, which then boosts the NZD. In contrast, lower exports make a smaller contribution to GDP, causing the NZD’s value to fall.
Increasing commodity prices causes the monetary value of New Zealand’s exports to rise, pushing its GDP higher. Falling commodity prices, on the other hand, cause the monetary value of exports to fall, dragging its GDP down.
Since the counter currency is the US Dollar, the changes in value are measured in Greenbacks.
On a 100,000 unit NZD/USD position, each pip movement is worth $10 USD while on a 10,000 NZD/USD position size, each pip movement is worth $1 USD.
Margin calculations are based in US dollars.
For instance, if the current NZDUSD rate is 0.7000 and leverage is 100:1, 700 USD in available margin is required for a 100,000 NZD position. A 10,000 NZD position requires 70 USD in available margin.
You see, because of the Kiwi’s relatively low value against the U.S. dollar, it requires the least amount of available margin among the other majors. That means it’s cheaper to trade the Kiwi!
Strong economic reports from New Zealand result in an appreciation of the NZD so if there’s a good chance that an economic release could beat the consensus, it could be a sign to go long NZD/USD.
Weak economic reports, on the other hand, push the NZD down. If an upcoming report is likely to come in weaker than expected, it could be a chance to short NZD/USD.
Aside from watching economic reports, taking note of commodity price behavior could also serve as an influence on NZD/USD price action.
In recent history, commodity prices tend to surge when demand for riskier assets is also strong. During these times, investors place their money in higher-yielding assets such as gold and other commodities and sell the lower-yielding U.S. dollar. As a result, the commodity-based Kiwi gains strongly against the safe-haven US.. dollar.
On the other hand, when risk aversion forces investors to flee back to the safe-havens, the NZD edges lower against the USD.
Just like the AUD, the NZD is also a good candidate for carry trade. Since carry trades involve buying of a currency with high interest rates and selling of a currency with low interest rates, New Zealand’s relatively high interest rate provides support for the NZD.