Dollar tipped to fall next year

By BRIAN FALLOW


Sky-high export commodity prices have taken the edge off a stronger dollar this year, at least for the rural sector.

But economists regard world commodity prices as at or near their peak, raising the possibility of a lose/lose scenario - an exchange rate that keeps rising while prices fall.

Since the dollar floated in 1986, that combination has happened about 20 per cent of the time.

"It's not inconceivable, if you get a situation where China stalls," said National Bank chief economist John McDermott. "That spreads across Asia and drives the price of our commodities into the ground, while people continue to worry about the United States' twin [external and fiscal] deficits, making for a weaker US dollar, and that money finds a home in New Zealand, pushing the currency up."

But he said no one was painting it as the likely or main scenario.

The bank expects a gradual decline of 20 per cent or so in commodity prices over the next two years. But that would still leave prices above their average over the past 10 years.

The latest international consensus forecasts see growth among New Zealand's top trading partners slowing from 4.4 per cent this year to 3.5 per cent next year. Historically, slower world growth is followed by lower commodity prices, with about an 18-month lag.

The dollar has a marked tendency to rise and fall with commodity prices. It acts as a shock absorber when commodity prices are low but also skims the cream, one might say, off high world prices.

However the high dollar is not slowing down the rural community.

"If you look where the economic growth is coming from, it is Taranaki, Southland, Gisborne," said McDermott. "Auckland and Wellington are well below the national average."

By contrast, the higher exchange rate is starting to be felt by exporting manufacturers, who have not had the benefit of surging international prices to offset the dollar's impact.

Meanwhile, in their latest economic overview, Westpac economists expected commodity prices to drop but thought the dollar was likely to experience a matching fall.

They said while the dollar's buoyancy could continue for the rest of the year " ... early 2005" was likely to see it slip across the board as the economy lost momentum and investors started focusing on when interest rates were going to start coming down.