There’s a confluence of circumstances forcing the Australian dollar up into previously unexplored territory, the latest of which was the unexpectedly high inflation numbers for the June quarter. This immediately ended speculation that the Reserve Bank might lower official interest rates sometime this year. Now it appears the only direction for rates is up.
It was that realisation and the new conviction that a rate rise or two is now firmly on the cards — triggered by not just the level of inflation recorded in the June quarter but its broad base — that saw the dollar push up above $US1.10 to levels not previously attained in the 27 years since it was floated.
That little surge, however, is only the latest blip in what is now a lengthening story of an increasingly strong Australian dollar. The Aussie is behind only the Swiss franc among developed economies in terms of its performance against the US dollar this year. It has appreciated more than 11% against the greenback since the start of this year.
It is no coincidence that Switzerland, traditionally a financial safe haven, and Australia have been the major beneficiaries of a global search for security. With the help of terms of trade that are, thanks to China and to a lesser extent India, at their highest levels for perhaps a century and a half, the Australian economy is one of the best-performing of any in the developed world.
The exposure created by the resource sector to developing Asia, but particularly China, is underpinning growth and providing a longer-term growth story for offshore investors and a proxy for a more direct exposure to the China story that its heavily managed currency cannot.
That back story is like a magnet for international investors, including central banks and sovereign wealth funds, looking for safe havens for their funds.
The Eurozone is a basket case, inextricably entangled with the stability of its weakest member states, of which there are several that would default without bail-outs.
The US is in a not dissimilar place, with its plight complicated further by the self-destructive stand-off between Obama and the Republicans over the raising of the country’s debt ceiling.
Even without that politically flavoured brinkmanship — even if a compromise is agreed in the next day or two — there is a very real prospect the AAA credit rating that Americans have come to take for granted will be lost as a result of the overwhelming challenges the country faces in bringing its debt and deficits under control. It also has helped that the US has actively devalued the greenback with its massive “quantitative easing” programs in response to the financial crisis.
No one would sensibly commit new funds to the US in those circumstances, at least until the uncertainties are resolved and the US dollar, which has been in free-fall, stabilises.
Australia, with one of the most stable economies — thanks to the resource sector and despite the challenges the high dollar is already causing for the structure of the economy and its capacity to respond quickly to the shifts in activity — looks even more attractive, given that it is already running the highest real interest rates in the developed world.
With further upside now on both the rates and the currency and the paucity of obvious alternatives, it isn’t surprising that foreign money is flowing in.
Inevitably, given the ability to borrow at low rates in the US and invest in much higher rates in a strengthening currency in Australia (shorting the US dollar in the process), there would also be a deep layer of purely speculative/arbitrager activity occurring.
The rapidity with which the dollar has run up in value is a concern. It is evident that the non-resource sector is struggling to adjust to the changing conditions. Confidence hasn’t been helped by the instability and unpredictability in Canberra and in the policies flowing out of the hybrid government.
Exporters are being damaged by the strong dollar while importers are finding it difficult to retain any of the windfall gains because of the fragility of business and consumer confidence. The dollar has run up so quickly and so steeply that there hasn’t been much time to adjust to the new circumstances.
And now the prospect of the RBA doing anything that might take some of the pressure off the non-resource side of the economy and inject some optimism into it has receded with the inflation numbers.
It is quite conceivable, provided the Chindia narrative remains uninterrupted and the US remains mired in its debts, deficits and increasingly ugly political impasses, that the Aussie could continue to strengthen.
If, however, China — which has some internal issues of its own with inflation — were to significantly slow, and/or the Americans were somehow able to come up with a sensible long-term strategy to return to sustainable public finances, the elevated levels at which the Aussie is trading against the greenback could be setting it up for a steep and potentially destabilising fall.
*This article was originally published at Business Spectator
There are actually many things that the Government and the RBA could do right now.
Firstly, there is not a single other first world OECD nation that would tolerate the current excessive speculative buying of our currency by foreign central banks.
Most of the inflows are sovereign in nature and private speculative buying of our currency is not the dominant source of funds flowing into the Aussie.
1/ An immediate 1% interest rate cut – going to 2% if that does not send the message out to the forex markets.
2/ Active selling of dollars by the government and RBA to increase dollar supply – especially against speculative run ups and even harder with drop offs to drive it down even further.
3/ A quiet word to the various central banks that are over investing in our currency to sell down and stay out of our forex markets.
4/ If a quiet word does not work then make it a loud word that makes it clear that the lack of confidence of foreign central banks have in buying US, Yen and Euro Treasuries is not our responsibility and start naming nations who are doing the buying.
5/ An immediate 25% percent super profits tax on mining companies along with an import tax on plant and equipment destined for mining operations.
The mining sector is clearly way overheated and needs to be slowed down. There are plenty of other nations that need the extra investment and every billion spent in central Africa by China is a billion less needed in foreign aid.
Our addiction to free market ideologies is all very fine in theory, but the current global economy is not free and is being manipulated at every turn by the US and China to meet their own ends.
The current situation with the Aussie dollar is a national security risk of the highest order that carries long term risk to Australia’s national security interests both economic, social and political.
Glenn Stevens is clearly beyond his use by date and should resign.
His replacement should be offered a fixed three year non renewable contract at 149,999 dollars per year including super. If you can’t earn a million dollar a year salary after being the RBA Governor for three years – then clearly you ain’t worth it in the first place.
Finally, the wannabe traitor Tony Abbott should stop running the country into the ground at every opportunity and should start acting like the alternative prime minister for a change and offer bipartisan support to the Government to meet the current economic crisis with a rational policy response.
This would send a clear message to the world that Australia will defend it’s own economic interests and will not be the puissant provincial backwater it so often wants to be.
Let’s stop being a nation of bogan trash that the spivs take to the cleaners time after time.
This article is very poorly entitled. It’s called “How high will the $A soar?”. Yet it is only near the end of the article that the reader discovers the writer’s thoughts on the subject. It’s conceivable that the Aussie could strengthen, but depending on events in China or the US it could fall steeply. Oh, how enlightening.
Simon – reducing interest rates isn’t an option because it would raise inflation. The mining sector has gotten out of control and is the tail wagging the dog. As you said, a mining tax would be the way to go. The government’s planned tax would have worked well, taking the heat off the mining sector while using proceeds to ease taxes on other business sectors, but of course the mining industry and Abbott would have nothing of it.
“Let’s stop being a nation of bogan trash that the spivs take to the cleaners time after time.” That’s exactly what we are. And it’s what Abbott is determined to keep us as.
From the article: “Confidence hasn’t been helped by the instability and unpredictability in Canberra and in the policies flowing out of the hybrid government.” The instability and unpredictability isn’t coming from policy making of the coalition government (NOT hybrid) but from the ability of any affected industry sector to spend megabucks on derailing it (mining tax, plain packaging, carbon tax, pre-committments on pokies) with Abbott piling in to use it as an opportunity to further destabilise the government. The policies themselves are IMHO perfectly clear and IMHO sensible and constructive for the economy as a whole.
I continue to be fascinated by the ignored super performer in the last couple of months, taa daaa wait for it,.. the NZ$!!? In May it was NZ$1.36 to the A$, now it’s NZ$1.25 so let’s hear it for the mighty Kiwi economy.
And the A$ is not so much strong, per se, soaring against the leaden US$ is no great feat. Look at the value against the Swiss franc and it’s barely moved in 12-18 months.
However, a slow down in China’s demand for our raw materials would obviously have a severe effect on the A$ as well as our two speed economy – as the doom mongers continually point out, “remove mining income and Oz is in deep doo-doo”.
When, not IF, China no longer has the insatiable US consumer market to buy its toys’n’tat, it will produce less as its domestic demand isn’t within cooee of being a replacement.
Then, and only then, will we see what we face in a future of self sufficiency.
@Malcolm: “Let’s stop being a nation of bogan trash that the spivs take to the cleaners time after time.” That’s exactly what we are. And it’s what Abbott is determined to keep us as.
Sadly have to agree. We may have dodged the GFC bullet but we are completely dependent on commodities and have no long term strategy for changing the situation.