Australian Dollar Q4 Fundamental Forecast: AUD/USD, AUD/JPY

Aussie Dollar Faces Multiple Headwinds

With the Reserve Bank of Australia (RBA) on hold since June and China’s economic woes continuing, the Australian dollar exhibits few bullish drivers - which opens up the possibility for narrow range trading at suppressed levels. With China making up roughly 40% of Australia’s total exports, the commodity-reliant currency pins its hopes on Beijing providing sufficient stimulus to lift the Aussie dollar.

That being said, forecasts at the latter stages of the global rate hiking cycle are extremely complicated with plenty of variables moving around. Even central bankers admit they don’t know what the future will hold. The following forecast leans on a mix of fundamental and technical clues to decipher what Q4 may bring.

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Final Stages of the Global Hiking Cycle

On the 4th of July RBA meeting, committee members noted higher interest rates were working to realign demand and supply imbalances but that the economic outlook remains uncertain, particularly household consumption. Therefore, the decision was made to keep rates unchanged at 4.1%, placing the Antipodean nation near the top of the pack when it comes to reaching the terminal rate (as it appears at the time of writing).

Australian Cash Rate (Interest Rate)

Chart prepared by Richard Snow, created with Refinitiv

However, since markets do not anticipate further rate hikes, a degree of strength has evaporated, meaning currencies linked to nations still hiking have a comparative advantage on the Aussie dollar via a superior interest rate differential. Even countries that aren’t raising interest rates but have settled above 4.1% will also be favoured at the Aussie’s expense as investors seek attractive yields.

Major Central Banks Policy Rates

Chart prepared by Richard Snow, created with Refinitiv

Aussie Dollar’s Fortunes are Intertwined with China’s

With around 40% of Australia’s total exports making their way to China, the Australian economy is inextricably linked to the ups and downs of the Asian nation. China emerged from prolonged Covid lockdowns with great potential, seeing the economy performing well during the first quarter of 2023. Since then, the picture has turned sour rather fast. The ailing property sector – which accounts for a quarter of Chinese GDP – remains weak. Property developer Country Garden had to appeal for creditor protection and Evergrande’s share price tumbled as it too struggled with liquidity issues.

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Furthermore, China had the misfortune to reopen during a global slowdown. Major economies like Germany, the greater European Union and other major trading partners have experienced stagnating GDP growth, with the US proving to be the outlier. China’s appetite for commodities has also eased due to the challenging internal and external environment, with the added cost of a strong dollar elevating metal prices. Beijing has lowered key benchmark rates applicable to home mortgages and at the end of Q3 lowered the reserve requirement ratio for banks to help stimulate the credit market. However, markets have been unimpressed with China’s support measures.

The chart below depicts the deteriorating environment for China and AUD/USD as the selected data points move steadily lower. Chinese manufacturing PMI data has also entered contractionary territory after a positive first quarter – seen via the sharp peak in the white line. Additionally, Chinese imports have declined on a year-on-year basis, continuing to weigh on Australia’s main export, iron ore.

Key Chinese Fundamental Data Alongside AUD/USD

Chart prepared by Richard Snow, created with Refinitiv

Australia’s Local Economy Faces Challenges in Q4

The procyclical (high beta) currency that is the Australian dollar, is likely to come under pressure as the growth slowdown hits its stride. Q2 growth registered 2.1% with quarterly data dropping since Q3 of 2022. The lagged effect of prior rate hikes is still yet to fully grip economies and so the next three months are likely to see a continuation of growth and inflation trends.

Source: Australian Bureau of statistics

--- Written by Richard Snow for DailyFX.com

Contact and follow Richard on Twitter: @RichardSnowFX