Fix your mortgage before rates rise

Back in the early part of this year things were looking very bad for the world economy and less bad – though still recessionary – for our economy.

At the time our central piece of advice was that eventually there would be a recovery but it was impossible to know when this would happen therefore people should continue to focus strongly on cash flows and hold fire on extra borrowing until the outlook became clearer.

We also said that given the way the NZD was falling NZ would probably eventually have a traditional export-led upturn with farmers and therefore the regions enjoying a combination of a low currency and improving commodity prices.

What has happened since March however has been something slightly different. There is definitely a global recovery underway and the time has easily been reached for businesses to be putting their expansion plans back into place. Some sectors of the economy are growing again.

But this is not an export-led upturn even though there are some quite positive signs emerging overseas.

For instance the Japanese, German and French economies all grew during the June quarter, manufacturing indicators are moving back into positive territory, and the US housing market is recovering.

In fact the most important thing of relevance to the financial markets this past week has been the upbeat comments from the US Federal Reserve Chairman regarding the US economy recovering. And we do have NZ export commodity prices generally rising.

But the NZ dollar has risen way beyond any level a reasonable person could have written about near the start of the year and currently is flirting with US 69 cents.

If this were a normal economic cycle then the NZD would still be back somewhere close to 50 cents mainly because our economy would still be weak while the rest of the world was recovering, and investors would be seeking exposure to good upturns in those economies rather than buying the currency of a still relatively depressed economy.

One gauge for the traditional poor NZ economic sentiment would be the fact that net migration flows would almost certainly be negative.

But as we forecast last year (should have translated this into a currency forecast one sees now) our net migration inflow is above average at 14,500 from 3,500 back in November.

Our economy looks good to people on the ground deciding where to live. That means it also looks good to investors overseas.

This in itself is not enough to make the NZD jump, it is more that the absence of depressing domestic negatives that has given global investors the green light to buy our traditionally volatile, risky, and also higher yielding currency during a period of global recovery.

In other words, why has the NZD soared? Partly because we Kiwis are not all that depressed. Mainly though it is the simple global movement toward riskier assets like shares and volatile currencies.

The early NZD rise means our upturn for the next two years is going to be more domestically based than usual. And that means this is what you need to pay attention to.

The Reserve Bank invariably raises interest rates - and further boosts the NZD - not when they see the export sector booming, but when they see the domestic economy including housing starting to strain the economy's resources. That is the path we are on now and that brings extra upside risks to NZ interest rates and the exchange rate next year.

Hence our very strong theme since the third week of March warning borrowers to fix three years and beyond and exporters to hedge. That remains our warning.

Between the middle of next year and early 2012 borrowers should budget for their floating rate costs they currently find so attractive jumping 3 percent or more while exporters should anticipate the NZD eventually reaching US 80 cents - though it is impossible to pick when.


Tony Alexander is chief economist at BNZ.