KEY POINTS:
Japanese investors panicked by the turbulence on world markets rushed to sell the New Zealand dollar yesterday, sending it crashing to a five-month low.
The kiwi dropped to US68.23c before closing at US69.02, down 2.63c on Wednesday's close.
BNZ currency strategist Danica Hampton said heavy selling by Japanese investors unwinding "carry trade" positions - in which low-yielding Japanese yen are borrowed to invest in high-yielding kiwi dollars - caused the fall.
American model funds and short-term speculators taking their cue from the US stock market were also heavy sellers, she said.
In the past week the New Zealand dollar has lost 8 per cent against the US currency. The Australian dollar is down 4 per cent against the American.
The NZ dollar has fallen more than 10 per cent in a week, the biggest slump since it was floated 22 years ago, and more than 15 per cent from its post-float peak of US81.1c on July 24.
Hampton predicted a consolidation period or at least "a bit of a bounce" as the speed and magnitude of the drop could not continue indefinitely.
But it was difficult to find reasons for any particular trigger for that, because of global credit concerns and also because of a weakness in US equities, which meant people would continue to sell carry trades and high-yielding currencies.
Between July 24 and the start of August - another period of heavy carry trades - the currency fell about 6.5 per cent in five working days, she said.
"So history would suggest we're due for a correction but it's really difficult to find reasons to buy at this stage other than profit-taking on short positions."
Deutsche Bank Sydney-based currency strategist John Horner said risk aversion in foreign exchange markets was behind the dollar's fall, and it was likely the Kiwi would continue weakening in the near future.
"Until we see a return of risk appetites, the New Zealand dollar is likely to remain under pressure," he said.
The New Zealand dollar closed yesterday at A85.60c against the Australian dollar, down from A86.65c.
Reserve Bank Acting Governor Grant Spencer said yesterday that the bank was closely monitoring the effect of the fall on domestic markets and liquidity conditions after the recent disruptions in world credit markets.
"While some additional pressures have been present, we believe the level of cash within the banking system is adequate and markets continue to function satisfactorily," Spencer said.
The bank would continue to monitor conditions closely and "stand ready to provide additional liquidity" if necessary.
On Friday central banks around the world pumped billions of dollars into banking systems in a concerted effort to beat back a widening credit crisis, and pledged to do more if needed.
Finance Minister Michael Cullen said yesterday that despite tumbling 14 per cent in just over three weeks to a five-month low the New Zealand dollar was still overvalued.
"The dollar is still well above a position justified by medium-term fundamentals and has been for a long time," Cullen said in a speech to a business group.
He also said the monetary policy framework needed to be looked at seriously to see whether it could be made more efficient at "curing the inflation disease without killing the patient".
Hampton said there were many ways to measure currency valuation.
When compared to the currency's long run equilibrium, which is about 60c, the dollar did look overvalued at 70c.
"But we'd argue that there's lots of reasons it should be higher than 60c anyway, such as high commodity prices."
The Reserve Bank is known to have intervened at least three times since early June to sell the New Zealand dollar in an attempt to slow its rise.
The bank's hawkish monetary policy which sent interest rates to record levels has been cited as a key factor in the currency's rise.
- Additional reporting, NZPA