Aussie dollar gives the Reserve Bank a rate hike it doesn’t want

Companies fretting over talk of interest-rate hikes could be feeling like they’ve just had one — thanks to a spiralling currency.The average value of the Australian dollar against a basket of other currencies, known as the trade-weighted index, has climbed 6.5 per cent since the start of June.

It takes just a 5 per cent increase to inflict the same economic impact as a quarter-point hike in the Reserve Bank’s cash rate, according to Paul Bloxham, chief economist for Australia at HSBC Holdings. He previously worked at the central bank.


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The comparison suggests the Aussie’s ascent could start to hamper the country’s transition away from a mining-boom-dependent economy. Since last year, the RBA has repeated a refrain that the currency’s slump since 2013 has helped industries outside mining; but that an appreciation “could” or “would” complicate an adjustment toward services and manufacturing.

The two main levers for tightening and loosening conditions in the economy are interest rates and the floating exchange rate.

“The RBA would certainly prefer a lower currency due to its positive impact on GDP and the economically beneficial realignment of investment and activity that it should deliver,” said Sean Keane, an analyst at Triple T Consulting.

“What the higher currency will do, however, is take away some of the additional stimulus that the RBA and Treasury may have been factoring in towards the end of this year and into next.”

Since the RBA first warned on the Aussie `complication’ last April, the currency has generally held in a range of US73¢ and US77¢. With a spike in commodity prices last year, policy makers appeared fairly relaxed about the currency’s level — while they would have liked it lower, they could live with it.

But with the Aussie now near US80¢ – it last traded at $US79.54¢ – it’s moving into new territory. 

Ironically, the RBA gave the currency’s comeback a helping hand on Tuesday by detailing a board discussion in the minutes of this month’s policy meeting. It estimated the level of the neutral cash rate — where output growth is at potential and inflation stable — at 3.5 per cent, or two percentage points above the current record-low cash rate. Traders appeared to extrapolate that if policy makers are discussing that, then they must be discussing rate increases.

Some economists including Commonwealth Bank’s Gareth Aird said they didn’t interpret the minutes’ discussion as a signal of imminent hikes, with most expecting the RBA to stay on hold for the rest of this year. Markets predict a 60 per cent chance of a hike in the first half of 2018.

The real test for rate increases is whether the RBA’s forecasts for the economy —  growth accelerating to 3 per cent and inflation meeting its 2 per cent to 3 per cent target — are likely to come to pass.

Thursday’s jobs report, a speech from RBA Deputy Governor Guy Debelle on Friday and second-quarter inflation data next Wednesday are lining up as trigger points.

Bloomberg

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