More Trouble for AUD and NZD
After the recent rise in global yields, AUD and NZD now appear to be in the process of unwinding strength generated by a ‘search-for-yield’ during the first three-quarters of the year. Both currencies have scope to fall to re-connect with narrower yield differentials following rate cuts earlier this year and higher rates in the USA. The bigger source of downside risk for these currencies is the pressure higher global yields may place on domestic economic growth as highly leveraged households face higher mortgage payments. Australian and New Zealand household leverage has risen to new records, exceeding pre-GFC levels, whereas USA household leverage has declined significantly. Australian and New Zealand banks still rely significantly on foreign funding sources. Higher global yields and regulatory pressure to switch to longer term sources of finance are already raising funding costs for Australian banks. Extended housing markets, an apartment glut in Australian cities, and macroprudential policy tightening in New Zealand also generate risks in the crucial housing market. A probable sovereign ratings downgrade in Australia is expected to feed through to somewhat higher mortgage rates in the year ahead. The recent sharp rise in Chinese rates and yields across maturity and credit segments points to financial stress in China generating risks for the Australian and New Zealand economies. Furthermore, both the RBA and RBNZ would prefer a policy mix of a lower exchange rate and higher interest rates, suggesting they will not be an impediment to further significant falls in these currencies.