KEY POINTS:
Today could be the turning point for the kiwi dollar, the economy and possibly even the seemingly bulletproof housing market.
The kiwi took a mild battering today as fallout from a shakedown in equity markets precipitated by a 9 per cent plunge in the overheated Shanghai sharemarket.
Suddenly, so-called "carry trades" are out of favour in the highly speculative forex market. These are the trades made when investors borrow in a low interest market such as Japan, and invest in a high rate market such as New Zealand.
Today, all the talk in forex market was that carry trades were to be avoided.
The kiwi dollar lost over one US cent, but more significantly, it fell over three Japanese yen.
"With risk aversion on the rise, we have seen kiwi in the spotlight," BNZ chief foreign exchange dealer Mike Symonds said.
"Investors are looking to pare back risk positions. The moves we have seen in global bourses has had a significant bearing on that."
Markets fret not just about a pullback in China's economy growth, that is driving the world economy, but also a possible US attack on Iran.
"Markets are nervous about the huge overhang of carry trades that have dominated markets in recent times. Various officials have warned that that can't continue ad infinitum," Mr Symonds said.
"We've seen all the major risk appetite indexes - such as emerging market bond spreads and fixed rate indexes - blow out.
"Given the huge, pent-up demand we have seen for kiwi in recent months, it is the kiwi which has succumbed more than some other currencies."
Some analysts believe the world may revert to pricing currencies primarily on relative national economic growth rates rather than interest rates.
That happened in the second half of the 1990s when the kiwi dollar plunged from US72c in late 1996 to under US39c by late 2000.
At that time, the Reserve Bank became so exercised about the inflation inducing fall of the currency that it hiked interest rates -- despite a near stagnant economy -- in the hope of attracting more investors.
But for a considerable time, rate hikes had an inverse effect and the economy fell into a period of high inflation and low growth, prompting then bank governor Don Brash to warn of the dangers of "stagflation".
Economists almost universally agree Bank Governor Alan Bollard will hike rates at his next review on March 8.
"The evidence since the last review will be too compelling to ignore," Mr Symonds said.
"The market is of the view that he has no choice but to hike. We've got to the end of the road in terms of warnings and now it's time for action."
However, he, and others, believe that instead of pushing the kiwi up as it has done in recent times, it will drive it down.
Dr Bollard could finally get the reaction to credit tightening he has been desiring -- punishment of the household consumer sector and a leg up for exporters via a weaker currency.
"Arguably, the best the thing the Reserve Bank could do in terms of seeing a sustained move lower in the kiwi, is to signal very clearly to financial markets that they are going to get on top of this domestic sector which has continued to bubble away," Mr Symonds said.
He believes the Kiwi will struggle to again break above the US71.50c level seen this week, even if Dr Bollard hikes on March 8 and signals another rate hike at mid-year.
"I think the topside of the kiwi at US71.50c is looking very formidable now. If investors are finally convinced the New Zealand economy, and the household consumer in particular, is in for more difficult times ahead then the attractions of the carry trade will pale.
"On the day (of a rate rise) there might be a small rally in the kiwi, but I think it would be quite limited. If anything, the risks would be pointed down," he said.
Many in the forex market may still believe a tightening will underpin more gains for the kiwi, said Mr Symonds.
"That's certainly not my belief."
- NZPA
