What’s the Dilly on the Kiwi?

Come and get it! Fresh off the press is New Zealand’s quarterly inflation expectations report! According to the latest release, New Zealanders are expecting price increases to remain strong over the next couple of years, although inflation is expected to soften slightly from 2.8% to 2.6%.

After seeing the latest producer price index (PPI) figures, can you really blame them? The PPI, which measures the change in the prices of purchases of manufacturers, has been on a consistent climb in the past four quarters. For the second quarter of this year, it clocked in a 1.4% increase in prices, which is 0.1% higher than the previous quarter and more than double forecasts!

Now how do you think producers will recover their additional costs? That’s right, Sherlock, through hiking the prices of their goods!

It doesn’t stop there, either. Strong retail sales could contribute additional upward pressure to prices as New Zealand’s retail trade report recently blew away expectations of a 0.6% uptick to record a jaw-dropping 1.5% increase in June.

So, what does the data imply?

Although inflation expectations did tick lower, the rate is still treading the upper band of the Reserve Bank of New Zealand‘s target inflation rate of 1-3%. Unlike the Reserve Bank of Australia, who has already raised rates six times from 3.00% all the way to 4.50%, the RBNZ has only increased rates twice.

The combination of New Zealand’s rising PPI and inflation expectations suggests that we could see the RBNZ play it safe and protect New Zealand against rapid inflation by hiking rates as much as 0.50% before the year ends. Westpac, a hot shot bank in New Zealand, even said that we could see interest rates go as high as 6.0% by 2012.

Does this mean we’ll see Kiwi strength in the near future? Hmm, that’s a tough call, especially since there appears to divergence between fundamentals and technicals… Let’s see what NZDUSD has to offer, shall we?

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Looking at the 4-hour chart of NZDUSD, it appears that the pair has been on a downtrend. After establishing a yearly high just below .7400, the pair has steadily moved lower down the charts, finding support at the .7000 handle.

Wait a second, hasn’t the RBNZ been raising rates? Shouldn’t this be positive for the Kiwi? What gives!

Well, the market likes to act in mysterious ways. Perhaps most people are bracing themselves for a double dip recession. Maybe the dollar is just too strong. Or perhaps traders are pricing in the potential slowdown in Chinese growth. In any case, it’ll be interesting to see where this divergence leads to.

Will it be boom or bust for the Kiwi?