Reserve Bank announces changes to FX management

The Reserve Bank has announced changes to its financing and management of New Zealand's foreign currency reserves to give the bank a more effective means of responding to crisis situations involving sharp falls in the New Zealand dollar.

The review was focused on enabling the Reserve Bank to manage its balance sheet to best meet monetary policy, currency, liquidity management and foreign reserves requirements.

The Reserve Bank's governor noted that, for the last 20 years, the Bank's foreign currency assets have been fully matched by foreign currency liabilities, which, by international standards, was an unusual approach.

The bank's new approach will be to hold some portion of foreign reserves on an unhedged basis, meaning that part of the foreign reserves portfolio will be funded in New Zealand dollars, which is a more conventional approach.

Dr Bollard noted that "in crisis situations it is of paramount importance that the Bank retains access to foreign currency reserves. With a portion of our reserves no longer borrowed from abroad, but funded internally, we will become less dependent on international capital markets in times of crisis."

The bank's guidelines for operating in the foreign exchange market have also been modified. Overt intervention intended to directly affect the exchange rate may still occur but the bank will also be able to more gradually accumulate or reduce its foreign exchange position when the exchange rate is at extreme levels and unjustified by medium-term economic fundamentals.

Dr Bollard said that the bank's more passive foreign exchange transactions will not necessarily be expected to directly affect the exchange rate but they will allow the bank to give concrete signals about the extent to which the exchange rate is seen as over or under valued. The hope is that this might indirectly affect the exchange rate by discouraging speculators from pushing the currency to extreme levels.

The Reserve Bank publishes its open foreign exchange position monthly on its website, with a one month lag.

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