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Australian Dollar May Rise on RBA, Economic Outlook, Strong Risk Appetite

Australian Dollar May Rise on RBA, Economic Outlook, Strong Risk Appetite

Dimitri Zabelin, Analyst

AUSTRALIAN DOLLAR FUNDAMENTAL OUTLOOK: BULLISH

  • Australian Dollar may rise on RBA rate decision and economic stabilization
  • Resilient risk appetite, support from central banks may amplify AUD’s gains
  • Having said that, escalating tension with China could curb the Aussie’s rise

RBA Rate Decision: What to Expect

At the last RBA rate decision on August 4, officials chose to hold the overnight cash rate at 0.25 percent and maintained that same yield target for 3-year sovereigns. About two weeks later, officials said they are prepared to adjust the stimulus package if the circumstances warranted it. Policymakers added that additional fiscal and monetary support may be necessary for some time.

Having said that, RBA Governor Phillipe Lowe stated that “The Australian economy is going through a very difficult period and is experiencing the biggest contraction since the 1930’s. As difficult as this is, the downturn is not as severe as earlier expected and a recovery is now underway in most of Australia”. To see the full text, visit the RBA site here.

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Consequently, if these unexpected signs – albeit uneven and “bumpy” – of economic improvement continue to manifest, the urgency to introduce additional stimulus may wane. This may then push AUD higher if investors focus on swift recovery expectations. Having said that, heightened geopolitical tensions between Australia and China could cap the currency’s gains if rhetoric mutates from words to written policy.

Economic Stabilization

As the statement by RBA Governor Phillipe Lowe states: “The outlook remains highly uncertain. The recovery is expected to be only gradual and its shape is dependent on containment of the virus”. For Australia, this is a somewhat gloomy message as the country re-imposes aggressive lockdown measures to contain a flare-up of Covid-19.

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Having said that, domestic viral uncertainty may be offset may renewed risk appetite and signs of global stabilization. The Citi Group Economic Surprised Index shows that economic data on a global scale has been outperforming relative to economists’ expectations at the highest rate ever recorded. This suggests that analysts initially perhaps overestimated the severity of the recession.

Citi group economic surprise index global

For a cycle-sensitive currency that is tied to an outward-facing economy, early signs of improvement are re-assuring for countries that are anchored to the global growth outlook. Consequently, if economic data this week – particularly the cascade of PMI reports coming out of developed and emerging markets – reinforces this notion of improvement, the Australian Dollar may rise.

Strong Risk Appetite Boosting Demand for High-Yielding Assets

As a positive knock-on effect, economic stabilization – along with aggressive support by central banks – buttresses risk appetite adds another gust of wind to AUD’s sails. Overlaying Deutsche Bank’s Australian Dollar currency index with an AUD inflation swap zero coupon (10Y) shows price growth expectations rising in tandem.

AUD Dollar with inflation

What this underscores is an underlying expectations that future economic activity will rise, and with it, price growth. As noted earlier, a change of tone in the RBA’s sense of urgency may magnify AUD’s gains, particularly if economic data domestically and in China – Australia’s largest trading partner – shows a brighter outlook.

--- Written by Dimitri Zabelin, Currency Analyst for DailyFX.com

To contact Dimitri, use the comments section below or @ZabelinDimitri on Twitter

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.

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