If the rise of China and the demise of the US dollar continue apace, the Australian dollar will run to dangerous new heights.
The Aussie dollar was floated in 1983. In its youth “the Aussie”, as it is known on foreign exchange markets, was a “dollar-bloc” currency, mostly moving in tandem with the greenback and the Canadian dollar. By 2003 however, and now in its 20s, the $A became more aligned with the fortunes of China. It became known in recent years as a “risk trade”, that is a currency which waxes in the good times then wanes when things get rocky on the global economic front.
But things have changed lately. The $A has grown up and finally left home. Although risk on global markets has risen, the $A has hardly been marked down like it used to be at the first whiff of volatility. Now in its adulthood, the currency – although still a fully fledged proxy for Asian growth – has taken on something of a safe-haven complexion.
As the spectre of a US debt default has rattled bond and share markets worldwide, the $A has actually risen. Whether this is a momentary or a lasting phenomenon, time will tell.
But the implications of a permanently high currency for this country – and this assumes that China will not blow up for some time, which is a decent-sized “if” – are profound. We are talking the destruction of entire industries under the weight of prohibitive export prices. That subject is for another day.
Meanwhile, just to respond to claims of mischief: an online article on the Herald‘s website by yours truly yesterday said the $A was headed to $US1.50 should the relentless rise of China and its insatiable demand for our commodities persist. This was only a forecast insofar as a caveat was inextricably attached – that is China.
It would seem obvious that if the terms of trade keep rising in this country’s favour and the unprecedented boom proceeds on its present trajectory then the $A will keep rising. A rate of $US1.50 then is plausible; indeed just as plausible, over time, as the $A plunging back to US60¢ should the boom quickly turn to bust.
For foreign investors, there is nowhere to turn. The $US is getting a thrashing as investors lose confidence in America.
Lately, there might have been a flight of capital into the euro, yet Europe is in disarray itself as Greece heads for inevitable default and other euro members teeter. The yen has risen, although Japan’s post-growth economy makes it a less-than-appetising destination for capital.
There is the Swiss franc, which has shot the lights out as a “safe-haven”. But this small European tax refuge has a case of capital-overload. So, the Aussie, rather than being sold off in recent weeks of turmoil, has pushed to new highs.
The Reserve Bank governor Glenn Stevens recently said other central banks had been buying the $A. It’s a proxy for commodities, Australia’s debt-to-GDP ratio is low and our interest rates are high. And privately Stevens – despite the pain for exporters – is happy to have the $A high. It keeps a lid on growth, and inflation, and saves him having to hoist interest rates any further and hurt the mortgage belt.
Now, more than ever a proxy for China, the $A has broken links with its dollar-bloc mentor, the greenback. But it is also proving resilient like never before – and this is the essential change in its character – even as instability has taken grip on the world economic stage.
As much as anything, the strong currency is down to high interest rates. Whereas rates in the US, Japan and Europe remain depressed, the base rate here at 4.75 per cent is the highest in the developed world. This differential attracts foreign investors. They chase the high rates in fixed interest markets, the rising $A.
As long as commodities keep rising, inflationary pressures will continue and rates here will stay higher than the rest of the world. The $A too will keep rising.
As the US continues to print money, the value of the greenback declines. And they like that as it devalues the size of their debt while the oceans of cash swilling about help to keep the stock market up.
With the US economy – and its currency – in terminal decline, the $A will continue to appreciate, but only as long as China holds. And that, once again for emphasis, is a sizeable “if”.