NZD Exchange Rates

How Exchange Rates Are Influenced

Find out about the history of the New Zealand dollar, and the influencing factors which can shape NZD exchange rates.

• Foreign Exchange
• Financial Information

The New Zealand Dollar has been reasonably strong, yet particularly volatile over the last couple of years. Its general strength has meant that importing goods into New Zealand has provided significant cost savings for your average New Zealander. With the dollar dropping back against the USD in the current global credit crunch, we ask - what factors shape the NZD exchange rate?

History of the NZD
The New Zealand Dollar (NZD) replaced the New Zealand Pound (NZP) in 1967 at a rate of 2 NZD = 1 NZP. The NZD was initially exchanged with the USD at this time at a rate of 1.39 USD = 1 NZD.

Until 1985, New Zealand's dollar was valued from a trade-weighted selection of currencies. On March 4, 1985 it was floated, and since that time its relative value against other currencies has been determined by the international markets. While the initial float of the NZD was posted at 0.44 USD, the lowest Trade Weighted Index (TWI) was 15 years later in 2000 when it weakened to 0.3922 USD.

In recent years, the NZD has been reasonably strong against the USD with a TWI of above 70 US cents to the NZD, a figure which has recently dropped into the 60 cent range in the second half of 2008.

In June of 2007, the Reserve Bank of New Zealand sold an unknown amount of the NZD in an attempt to drive down its value. There were two attempts at this, both with only marginal success (dropping the dollar by less than 2%). However, by the end of 2007 the NZD reached new post float highs to hover above 0.80 US cents, reaching a record high on February 27 2008, of 0.8213 USD.

The New Zealand Dollar's value is strongly affected by speculative currency trading, as New Zealand has some of the highest interest rates in the developed world, therefore offering a greater return on assets.

Exchange Rates
Exchange rates are an important factor in the relative level of a country's economic stability. They are essential in the role of New Zealand's level of trade - as they are to all free market economies worldwide. Exchange rates are watched closely and analysed on at a Government and business level and also have an influence at an individual level, as fluctuating exchange rates can directly affect the return of investor portfolios - thus there are many foreign currency service providers available to assist them.

There are five specific key factors in determining a country's exchange rate, and being a truly twenty four hour market a country's exchange rate can be affected at any time. Exchange rates affect relationships with the nations in which New Zealand trades - having a higher currency makes our exports more expensive in foreign markets, and imports less expensive, and vice versa.

Inflation

Inflation is the rate of increase of the general price of goods and services within a country. Normally, a nation with a consistently lower inflation rate has a rising exchange rate value, as its purchase power increases comparatively to their trading partners. If a country has higher inflation, they will generally see depreciation in their currency relative to other currencies.

Interest Rates

With the adjustment of interest rates, central banks have the power to influence exchange rates and inflation which together can change the value in the local currency against the foreign rate. A higher interest rate offers lenders in an economy a higher return, while a lower interest rate offers those lenders a lower return. Having a higher interest rate therefore attracts foreign investment in a currency, which in turn causes an exchange rate to rise. However, where the inflation in a country is significantly higher than in its trading partners' countries, interest rates are alleviated. Conversely, lower interest rates will normally decrease exchange rates. 

Trade Between Countries

Much like private investors, countries have accounts with each other which reflect the payment between them for goods and services, as well as interest and dividends. If a country has a shortfall in their account they create a deficit by spending more on foreign trading than they are bringing in - meaning they need to borrow for external foreign sources to make up for the shortfall. This deficit means a country requires more of other nations' currencies than it brings in through export and the sale of goods and services, and it supplies more of their home currency than others demand. This causes the lowering of the exchange rate until goods and services from that country are cheap enough for foreign buyers. 

Terms of Trade

When the price of the goods and services which a country exports rises at a greater percentage than the rate of that countries imports, the terms of trade advance. Improving terms of trade show larger demand for a country's offerings, which results in larger revenue and a boost in demand for the nation's currency. Again, this works in the opposite way when the import rate increases over the export rate, with opposite effects.

Debt

When a country undertakes spending to pay for nationwide projects of a very large scale they often need to seek external deficit financing. When this is undertaken, the country is thus less attractive for foreign investment. Foreign investors seek stable currencies and a large debt shows a considerable weakness. This weakness can be furthered when a country is at risk politically, whereby political disorder creates a loss of confidence from investors so they move to more unwavering nations.

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Business images from Flickr: Markets, New Zealand Flag and Wellington Buildings.