The Australian Dollar (AUD) experienced a slight dip today, falling 0.06% to 0.6580. This significant dip adds to worries over Australia’s recent economic performance and its acute vulnerability to the current high level of strength in China’s economy. As Australia’s biggest trading partner, China’s state of economy heavily influences what drives the price of the AUD. Today’s data showed that Australia’s Retail Sales rose only 0.2% MoM in May. This figure surprised to the downside of market expectations of a 0.4% increase, further muddying the waters on the relationship.
That’s the good news as the Australian Bureau of Statistics (ABS) has just released the official monthly figures showing a slight uplift in retail spending. This strong performance raises important questions about consumer confidence in Australia. It affects overall spending trends, which may be most important for the country’s fiscal outlook.
The Impact of China’s Economy
China’s economy significantly influences Australia’s economic landscape. As China’s number one export market, large changes to China’s economic health immediately seep into demand for Australian exports. A strong Chinese economy is generally good news for Australia, as it leads to a greater demand for Australian raw materials, goods and services. As a result, any positive performance from China usually has a positive effect on the value of the AUD.
Iron ore provides an excellent case study of this paradoxical commodity duo. That’s because the demand for iron ore is a good barometer for the overall health of China’s construction and manufacturing sectors. When China’s economy thrives, its demand for iron ore rises, consequently lifting the AUD’s value. A slowdown in Chinese economic activity can immediately reduce demand for Australian resources. As a result, this increases the downward pressure on Australian currency.
Further, the price of iron ore in and of itself is a primary driver for the value of the AUD. Changes in global iron ore prices can translate pretty much instantly into effects on the Australian economy and on the AUD/USD exchange rate. This produces a curious contradictory relationship between blaring international commodity markets and booming domestic economic indicators.
Domestic Economic Indicators
Inflation and growth rates internally have huge impacts on the AUD’s value. In the context of rising inflation, this affects purchasing power. This will force the Reserve Bank of Australia (RBA) to adjust interest rates, affecting currency valuation in the process. Investors and traders are hanging on every one of the RBA’s monetary policy moves. In usual circumstances, higher interest rates would bring in more foreign capital which would increase demand for the AUD.
Additionally, Australia’s trade balance directly influences the currency’s strength. Producing a trade surplus—when exports exceed imports—tends to increase the value of the AUD. A trade deficit can undercut it. Australia boasts a positive overall trade balance largely due to its resource exports. The mood is generally upbeat, but sudden spikes and dips in global commodity prices—think of gas, coffee, or lumber—can change that dizzying fast.
The new retail sales figures add a big wild card to this picture. On the retail front, the ABS reported a 0.2% increase in retail sales for May, way below the expected 0.4%. Such missed expectations may signal underlying weaknesses in consumer sentiment, which could influence future economic growth rates and inflation trends. If consumers sit on their wallets, that could bring economic growth to a crawl. This would weigh further on the Australian Dollar.
Outlook for the Australian Dollar
Given these mixed signals from both domestic and international fronts, analysts are closely monitoring developments in China as well as local economic indicators. Australia is a resource-rich country that has an economy highly dependent on the resources commodities, particularly iron ore exports. Its economic fortunes are tied at the hip with global demand that is led by China.
Unquestionably, market participants are still keeping the implications of slower retail sales growth at bay. They are monitoring any move by China’s economic policymakers or release of new data that might impact Australian exports. A booming Chinese economy creates new demand for Australian minerals and gas. As a result, any whiff of a slowdown from China would immediately hit the AUD hard.