Australia's currency, the Australian Dollar (AUD), experiences fluctuations influenced by a variety of factors. These include the country’s export dynamics, trade balance, and policies set forth by the Reserve Bank of Australia (RBA). A significant driver of the AUD's value is the demand created by foreign buyers seeking to purchase Australian exports, which include highly sought-after commodities.
Australia's economic landscape is largely shaped by its exports, with Iron Ore standing as the largest contributor. According to 2021 data, Iron Ore exports reached a staggering $118 billion annually. A substantial portion of this trade heads to China, Australia's largest trading partner. When global demand for Iron Ore surges, particularly from China, it exerts upward pressure on the AUD due to increased foreign exchange requirements.
The RBA plays a critical role in influencing the value of the AUD through its monetary policy decisions. By setting the level of interest rates at which Australian banks can lend to each other, the RBA indirectly affects the currency's value. Generally, higher interest rates attract foreign investment, leading to increased demand for the AUD and subsequently a rise in its value. Conversely, lower interest rates may lead to a depreciation.
Another important aspect impacting the AUD is Australia’s trade balance—the difference between earnings from exports and payments for imports. A positive trade balance strengthens the AUD as it reflects surplus demand for Australian goods and services. Conversely, a negative trade balance weakens the currency.
The Chinese economy is a pivotal influence on the AUD given China's status as Australia's largest trading partner. When China’s economy thrives, its demand for raw materials, goods, and services from Australia rises, thereby boosting demand for the AUD and enhancing its value. Conversely, any downturn or unexpected changes in Chinese economic data can adversely affect the AUD.
The RBA’s overarching goal is to maintain a stable inflation rate within the 2-3% range. This objective heavily influences its decisions on adjusting interest rates. When inflation shows signs of rising above this range, the RBA may increase interest rates to temper economic activity and control price growth. On the other hand, if inflation dips below target levels, the RBA might lower rates to stimulate economic growth.
In addition to interest rate adjustments, the RBA can resort to quantitative easing or tightening to influence credit conditions. Quantitative easing involves increasing the money supply to lower interest rates and stimulate borrowing and investment, which tends to have an AUD-negative effect. Conversely, quantitative tightening restricts money supply growth, leading to an AUD-positive outcome.
The price of Iron Ore remains a pivotal driver of the AUD. When Iron Ore prices climb, it typically results in an appreciation of the currency due to heightened aggregate demand. The interconnectedness between Iron Ore prices and the Australian Dollar underscores the importance of this commodity in Australia’s economic framework.