Australian Dollar Could See Volatile Summer

The Australian dollar has seen major weakness since the beginning of April but a collection of market events suggest that these trends could continue throughout the summer.  Typically, the summer months see reduced trading volumes – and this means smaller volatility levels in the markets.  But this time, things could change, as interest rate expectations for the Reserve Bank of Australia (RBA), changes in US stimulus programs, and unstable credit conditions in China all point to what could be further declines in the Australian dollar.

First, the RBA.  Interest rates in Australia are already at record lows of 2.75%.  At its last meeting, the RBA elected to hold these rates steady. But with inflation continuing at a moderate pace and general sluggishness seen in the economy, there is scope for interest rates to be lowered further by the end of the year.  This takes away some of the currency’s allure for investors, as they are paid less in interest when holding onto the currency for long periods of time.  When this happens, currency values tend to drop.

Watching External Factors

But the fate of the Aussie does not rest solely on the progressions seen in the domestic economy.  Other factors to consider can be seen in China (Australia’s largest trading partner), and in the US, where the Federal Reserve might soon be ending its economic stimulus programs (the much-discussed programs of quantitative easing).

In China, unstable credit conditions will also be a critical area to watch.  Chinese companies that are unable to secure cheap credit will be forced to cut back on production and manufacturing.  This means these companies will also be buying fewer raw materials (such as copper) from Australia.  Since the trade relationship between China and Australia is so strong, cases in economic weakness in one area tend to have the same effect on the other.  Here, the Chinese leadership will need to convince markets that credit will be readily available in order to avoid a significant downturn, spooking stock markets and likely putting pressure on the Australian dollar.

Finally, we have the situation in the US, where the country’s central bank (the Federal Reserve) has indicated it goal to end its stimulus programs by the middle of 2014.  These plans will not be discontinued all at once, however, and will instead be phased out or “tapered-off” to more manageable levels.  This will essentially bring renewed strength to the US dollar because it will mean that there are fewer dollars present in the economy.  Supply and demand tells us that any time fewer goods are available, the price of those limited goods tends to rise.  This will likely be the case going forward for the US dollar, and since that currency is the biggest trading counterpart for the Aussie, anytime one goes up, the other tends to fall.

Effects in Australia

So, what does this mean for the Australian economy?  Clearly, the broader climate suggests we will see further declines in the Australian dollar.  But this could lead to positive effects as well.  For example, Australian export companies would be a major beneficiary if the currency continues to weaken.  This is largely because it will mean that Australian products will be cheaper for foreign consumers, especially when compared to potentially rising values in the prices seen for domestic products in those countries.  So, while the big rallies in the Australian dollar we have seen in recent years might be stopping for a breather, there are clear advantages as well.  If the RBA gets its way, this will mean improvements in the country’s labor market before the end of the year.  For more market news, forex trading strategies, and binary options analysis, visit MarketBulls.net.