The Australian dollar (AUD) firmed as important economic data from China started to come out. During that same period, local monetary policy decisions had an even more dramatic effect on its value. This will be the RBA’s first meeting where the OCR is expected to be held at 4.10%. This decision, occurring in the wake of an interest rate cut earlier in February, demonstrates their goal to stabilize inflation within their long-term inflation objective of 2-3 percent. This decision comes right on the heels of the RBA gearing up for its own monetary policy meeting, scheduled for early Tuesday.
The trade balance In simple terms, the trade balance is the difference between what Australia makes from its exports and what it spends on imports. A strong net trade balance will positively affect the AUD by increasing its value, whereas a negative trade balance can lower the value of the AUD. China’s economy is booming, particularly in the area of manufacturing. This economic stimulus contributes to a positive terms-of-trade, or trade-balance outlook for Australia—immediately supporting the AUD.
Influence of the Chinese Economy
After all, China is still Australia’s largest trading partner, and its economic health has a direct effect on the health of the AUD. On Friday, China’s Caixin Manufacturing PMI for March came in at 51.2, beating forecasts of 51.1. Manufacturing output has increased on a year-on-year basis for the 17th straight month. This continued demand has increased the demand for Australian exports, particularly in the area of raw resources including iron ore.
When the Chinese economy is going well, it buys a lot more goods and services from Australia. Such rising demand leads to an appreciation of the AUD as foreign purchasers step up their purchases. The Caixin report noted, “New orders growth supported by quickest rise in exports since last April,” underscoring the link between Chinese demand and Australian economic health.
Hints of recovery appear in China’s employment sector. Better yet, for the first time in 19 months, those jobs are growing! This large improvement would only increase the demand for Australian products, keeping upward pressure on the AUD.
Monetary Policy and Interest Rates
The RBA’s public mission is to keep inflation low and stable, as well as promote the stable economy. By raising or lowering the official cash rate, the RBA sets the rate that it wants banks to lend to each other at. A pretty steady interest rate outlook creates confidence for investors and consumers alike. This newfound confidence spurs increased economic activity benefited by an increase in currency valuation.
Economists expect the RBA to hold rates unchanged at 4.10% at its next meeting. Yet this decision is an important one. It illustrates the RBA’s assessment of prevailing economic conditions and outlooks for addressing inflationary pressures. The Reserve Bank of Australia’s (RBA) policy outlook on interest rates has the most potential to dramatically impact market sentiment towards the Aussie dollar.
Quantitative easing and tightening are other tools the RBA has at their disposal that will affect credit conditions. More generally, quantitative easing has been seen to put downward pressure on the AUD, and tightening conversely puts upward pressure on the AUD. As seen above, the RBA’s deft orchestration of these policies has been key to preserving currency stability in the midst of huge dollar swings covered above.
Trade Balance Dynamics
Most important in determining the strength/weakness of the A$ is the trade balance. A growing positive trade balance indicates that Australia is successfully exporting more than they are importing. Under normal circumstances, this would put upward pressure on the country’s currency. Moreover, a growing negative trade balance tends to put downward pressure on the AUD. This occurs when Americans’ spending on foreign goods outpaces the money they earn from exporting goods.
Recent trends show that Australia’s trade balance is benefiting from increased exports to China, driven by heightened demand for commodities such as iron ore. More importantly, when my country becomes better off economically, its desire for Australian products increases most violently. This has resulted in a small bounce back in AUD/USD quotes, now trading around 0.6240 according to most recent Bloomberg screens.
This case of the cat’s paw effect between trade dynamics and currency valuation provides an example of how external events can have outsized effects on local economic conditions. This is true, too, as investors look at how these developments shift the landscape for potential investment opportunities — and risks — related to the Australian dollar.