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BILL’S BITES: $A on a tear – and not done yet

12:15pm June 19 2020

Westpac Chief Economist Bill Evans discusses the outlook for the Australian dollar. (Josh Wall)

The Australian dollar has been on a tear of late, lifting from US65 cents to around US68.8c in the last month in line with a solid rise in the iron ore price and the country’s success in containing the coronavirus.

In addition, the risk environment in the world economy – which was always going to be the defining force for the Australian dollar – has generally remained supportive. While moves in the past week highlight that it is not going to be a smooth ride, markets have generally maintained their solid momentum since mid-March when the Federal Reserve “rescued” equity and debt markets with its massive $US2 trillion intervention to boost liquidity and ease credit concerns. 

Complemented by aggressive fiscal policy in all major developed economies (estimates of total global stimulus are now running at around USD 9 trillion) and encouraging evidence that advanced economies are making progress in containing the virus and easing restrictions, it appears unlikely that a sustained reversal in confidence will eventuate this year. 

Accordingly, last week we significantly lifted our forecasts for the Australian dollar from US68c to US72 cents by the end of 2020 and US76c by the end of 2021 as the global economy recovers. We expect global growth to lift from minus 3 per cent in 2020 to positive 5 per cent in 2021, including a stunning 10 per cent growth momentum in China.

For the Reserve Bank, our Australian dollar forecasts – or an environment of even greater upward pressure – could make their current growth; inflation; and employment forecasts appear optimistic, being based on an Australian dollar of US64c. 

Recall the lessons from the commodity and Australian dollar boom in 2009/2010 where, to the surprise of the RBA, the lift in incomes from the booming terms of trade was leaked into savings rather than spending, limiting demand while the high dollar weighed on inflation and growth.

And in 2021, we had already been expecting the legacies from the crisis to challenge the Australian economy. Growth is forecast to lift to 3 per cent (from minus 4 per cent in 2020) but the unemployment rate will remain elevated. 

Downside outcomes for inflation and growth, exacerbated by an over-valued Australian dollar, may well see the RBA reassessing its caution towards reducing the cash rate below zero.

As I have previously argued, it seems likely that negative rates would provide considerable downside for the Australian dollar while supporting asset prices and lowering mortgage rates.

In this current uncertain environment, being alert to the risks of such a policy tilt is prudent. 

The information in this article is general information only, it does not constitute any recommendation or advice; it has been prepared without taking into account your personal objectives, financial situation or needs and you should consider its appropriateness with regard to these factors before acting on it. Any taxation position described is a general statement and should only be used as a guide. It does not constitute tax advice and is based on current tax laws and our interpretation. Your individual situation may differ and you should seek independent professional tax advice. You should also consider obtaining personalised advice from a professional financial adviser before making any financial decisions in relation to the matters discussed.

William (Bill) Evans is Westpac’s economic spokesman and is responsible for all of our economic research. In 1991, Bill joined Westpac as the Chief Economist and Head of Research. A graduate of Sydney University (BEc. Hons I and University Medal) and the London School of Economics (M. Sc.), Bill has worked as Research Manager for the Reserve Bank of Australia and as a Treasurer at the Commonwealth Bank of Australia. Bill travels frequently, advising Westpac’s customers on the Australian economy and financial markets.

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