The Treasury today published the second of a two-part piece of research examining New Zealand dollar cycles.
The working paper, New Zealand’s Exchange Rate Cycles: Impacts and Policy examines the extent to which exchange rate fluctuations hinder New Zealand’s tradable sector and broader economic performance. It also examines potential policy options available to dampen exchange rate fluctuations in the medium term in order to benefit the tradable sector of the economy.
As part of its brief, the paper surveys some different exchange rate regimes and practices overseas for insights into what lessons New Zealand can take from other countries’ experiences.
The link between exchange rate fluctuations in the medium-term and tradable sector performance is not automatic; many factors are at work. Theoretical evidence suggests that these exchange rate fluctuations in the medium term are hindering the growth of the tradable sector. The paper readily acknowledges that sustained periods of overvaluation in the New Zealand dollar can be materially damaging to the performance of the tradable sector.
While our free-floating exchange rate framework is judged the most appropriate for New Zealand at this time, the paper concludes that there is some scope for adjustments to be made to New Zealand’s fiscal, housing, and potentially prudential policy-making tool kit that might assist in reducing the large amplification of the New Zealand dollar cycle.
Today’s paper builds on the findings of an earlier paper entitled New Zealand's Exchange Rate Cycles: Evidence and Drivers which was published in December. That earlier working paper examined the extent of New Zealand’s exchange rate fluctuations compared with other countries and the key drivers of those fluctuations, including relative returns such as interest rate differentials.