Neville Bennett: The Rise & Rise Of The NZ Dollar

The N Z Dollar has grown very strongly, this year, relative to the US. At present its value is $US 0.63 cents, an enormous change from a low of $US 0.39 not too long ago. Almost all of business will have anxieties about the future. Exporters will be distressed by falling returns. Businesses that cater for the domestic economy will be concerned as foreign made goods will be increasingly competitive in price. Only importers will be relieved.

What does the future hold? It is unpredictable, as the price of the N Z currency is the result of a very complex interplay of a host of market forces. These forces change in price every minute of the day and night. The known factors on the New Zealand side include the rate of economic growth, the spread of interest rates, the trade balance and the balance of payments. Similar factors sway the American side. But an important, volatile, force is that of foreign securities, issued in New Zealand currency. For convenience, they will be called Eurokiwis in this article.

The situation seems set for renewed issues of Eurokiwis. If this does occur, and the probability will increase if the Reserve Bank tightens rates, the dollar will appreciate very quickly. In the medium term, the redemption of the bonds will also result in massive selling of the Kiwi, and the price will decrease in a few years.

Eurokiwis began to be issued in the 1980s. There were zero issues in 1984 but $2.2 billion in 1985, $1.9 billion in 1986, and almost $4.0 billion in 1987. The dollar became strong in consequence, spiking at $US0.75 in 1988. Issuances then declined, through to $50 million in 1995. Consequently, the dollar slipped to 52 cents in 1992.

In 1996 interest rates in New Zealand were very high, and foreign financiers rushed to issue bonds designated in $N Z. Issuances sprang from $50 million to $4867 million the following year—close to a hundredfold increase! In 1997 total issuances almost doubled again to $8495 million. $7 billion were issued in 1998.It is no coincidence that the dollar rose to 73 cents. However, issuances fell off to $900 million and the dollar fell again

There is a close correlation between issuances and the strength of the dollar. This is to be expected. If foreigners buy $8 billion of N Z Dollars in a year, the demand will drive the price up. In 1986 and 97 the price was driven to $US 0.73cents.

However, when the bonds mature, there is heavy selling of the New Zealand dollar, and this drives the price of our currency down, as in 2000-2001 to 39cents. If there is now an increase of issues, this will decrease the depressing effect of selling the maturing debt. If few issues take place, the New Zealand dollar could fall in relative value quite rapidly.

In 2003, the cost of maturities will be $2.2 billion, and there will be a further $2.8 billion in 2004. Huge maturities are due in 2006 and 2007($3.6 billion) which, other things being equal, will depress the dollar.

The issue of “Eurokiwi” (and “samurai” etc.) is a very significant phenomenon. $47 billion has been issued since the 1980’s and $34 billion redeemed. Thus, one consequence of the Eurokiwi has been a significant increase in overseas debt. At present, New Zealand owes a net $13 billion to foreigners on account of these issues.

EUROKIWI
Cuckoo’s egg in kiwi nest

Very few people understand the operation of the Eurokiwi market. It is a major means of bank funding, and influences interest and exchange rates. It is also basically unregulated and almost anarchic being a means by which the banks could avoid some of the effects of monetary policy.

It may be menacingly dangerous. It has beggared many European investors and may have caused resentment against New Zealand. Moreover if Eurokiwi maturities eventually depress the dollar, they will exert upward pressure on interest rates. They will also present problems in refunding the banks and set in process additions to our burgeoning foreign debt.

The Eurokiwi is really a kind of cuckoo’s egg, laid in a Kiwi’s nest. Not all of its effects are malevolent, but its parents do not give a damn, and are careless of New Zealand interests. So that these implications are widely understood, this article will explain more fully the nature of Eurokiwi, before proceeding to discuss other issues.

Eurokiwi are bonds, designated in NZ$, issued by a foreign organisation, to investors primarily based overseas. They are listed on foreign stock exchanges. Their total value at times exceeds the bonds issued by the New Zealand Government.

The issuer tends to be prestigious with a very high credit rating. The World Bank, for example, is a prominent issuer. . Issuers are able to borrow at the cheapest rates, and their reputation facilitates bond sales.

As New Zealand banks are too unknown internationally to raise money cheaply for themselves, the banks are using the credit-worthiness of esteemed issuers to get access to funds.

In addition, New Zealand banks have a vast appetite for funds, yet little capacity to raise them domestically given the country’s poor saving record. Only 30% of their funds come from deposits, with the remainder coming from their foreign masters (25%) and the largest part (45%) from “other institutions”, which is short hand for Eurokiwi etc. The largest use of funds is in mortgages.

New Zealand banks get access to the funds from Eurokiwi issues by means of a simple swap. Issuers have no need of NZ$, so they lend the proceeds of the bond issue to kiwi banks. In return, a kiwi bank raises and on-lends to the issuer, the currency which it really wants, perhaps US dollars, or yen, or deutsche marks. So a local bank ends up with NZ$ and the issuer, say, US$.

This means that a local bank raises a loan of millions of dollars in US currency and lends it to the issuer for a fixed term, usually three years. The issuer lends NZ$ to a New Zealand bank. The latter then typically offers three year fixed-rate mortgages to kiwi householders.

The issuer gets a US$ loan and also issues NZ$ bonds on European stock markets. Retail investors, like the proverbial Belgian dentist, can buy the security in low values, and at an attractive high yield. Incidentally, there was a lot of pain in Belgian dental surgeries because the NZ$ has lost value after September 1997, when many Eurokiwi, were issued.

Lured by high yields, small European investors have made their funds available to kiwis. So Eurokiwi bonds have made more capital available, and at a cheaper price, than New Zealanders could have raised for themselves. Perhaps they have not used it productively, apparently devoting most to housing.

Because the process made large amounts of capital available, it created a feeling of optimism, as interest rates were lower. This encouraged ordinary Kiwis to spend rather than save. Indeed the value of net assets has been pretty stationary since the mid-1990s. Much spending on housing, cars, recreation and holidays is on credit, with deleterious consequences for the balance of payments. Imports grow rapidly, thereby contributing to New Zealand’s current account deficit.

The problem with Eurokiwis is fundamental. Being a bond issued in New Zealand, in NZ$, by a foreign party, for the purpose of being listed on a European stock market, it lies beyond the control of any New Zealand authority. It is a cuckoo’s egg laid in a New Zealand nest by non-caring parents.

Being issued by foreigners for their own convenience and profit, no consideration is given to New Zealand interests. The issuers are as unconcerned about Kiwis as they are about the European investor to whom they have apportioned huge foreign exchange risks.

The bonds are issued when the issuer sees a nice opportunity to make a few dollars. This condition arises essentially when New Zealand interest rates are relatively higher than rates in Europe.

Bond issues cluster at certain times .(see chart) Naturally, the maturities also cluster, particularly in the 2000-2001, and 2006-7 periods. The sheer magnitude of these huge, sudden, capital flows is destabilising and requires quite massive efforts to minimise the strains imposed on a small financial system.

These capital flows have a massive effect upon interest and exchange rates. When issues were high, around 1996-7, the incoming capital lowered interest rates but drove the NZ$ above US$0.70 cents. Conversely, when there are large net maturities as in 1999-2000, involving some NZ$5 billion a quarter, there broad effect was to deport capital, increase interest rates and depress the dollar.

Dr. Neville Bennett
Christchurch, New Zealand
n.bennett@hist.canterbury.ac.nz
November 21, 2003

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