Last week, we argued that the Reserve Bank of Australia (RBA) will have to cut rates further to force the Australian dollar lower. But it turns out that, like other central banks, the RBA has another powerful tool at its disposal: jawboning.
In recent weeks, RBA Governor Glenn Stevens has gone from characterizing the level of the exchange rate as “uncomfortably high” to noting “that foreign-exchange intervention can, judiciously used in the right circumstances, be effective and useful.”
That latter observation, which was offered in a speech before the Australian Business Economists’ annual dinner on Nov. 21, has already helped push the currency down by more than a cent, which may not seem like much, but is a substantial short-term move in the arena of currency trading.
According to the Wall Street Journal, in the decades since Australia shifted to a floating exchange rate in 1983, such a currency intervention has essentially been verboten. So it’s a noteworthy shift for policymakers to announce publicly that this approach could be worth considering.
Westpac senior currency strategist Sean Callow says the RBA’s latest jawboning campaign began in earnest on Oct. 29, when the currency was trading near USD0.95. After having fallen as low as USD0.89 in late August, the Aussie rose sharply after the Fed opted to defer its widely expected September taper until a later juncture.
The currency climbed as high as USD0.97 in late October, with three cascades since then, the latest of which has taken the currency from USD0.943, on Nov. 19, to USD0.916 (at time of writing). The Aussie is currently down about 13.6 percent from its year-to-date high in early January.
We had actually discounted the RBA’s ability to achieve meaningful depreciation through public pronouncements because the concrete actions of its rate-cutting cycle had already failed to do the same. It wasn’t until the US Federal Reserve began talking about pulling back on its extraordinary easing in early May that the Aussie finally began plummeting. If actual rate cuts couldn’t undermine the currency, then what good would mere chatter be?
But sometimes it’s all about psychology. And the selloff in the Aussie since the late spring may have reset traders’ attitudes toward the currency, which prior to that point had risen as much as 83 percent from its low during the Global Financial Crisis, while trading above parity with the US dollar for the better part of two years.
That relative strength was causing significant pain for Australian firms that compete in the global markets. We’ve read the transcripts of numerous earnings calls where management teams bemoaned the effects of the strong currency on overseas sales. And with the resource boom fading and policymakers hoping to find another sector that can help boost the country’s slowing economy, it’s crucial for companies that are looking to foreign markets for growth to have a currency edge.
Of course, as we’ve also noted recently, short-term movements in the Aussie have been increasingly correlated with traders’ expectations regarding Fed policy. On that front, the RBA once again received some help from the Fed. The minutes from the Fed’s Oct. 29-30 meeting of its Federal Open Market Committee, which were released on Nov. 20, showed that policymakers expect labor market conditions to continue improving, which would “warrant trimming the pace of purchases in coming months.”
Still, this isn’t actually a timetable, and any taper is dependent on an improvement in the data. But traders seem to interpret such statements as if they’re the former, rather than the latter. Regardless, in the short term, such expectations have helped the RBA achieve its policy end, even if yet another deferred taper causes the exchange rate to temporarily spike again. By that point, however, the RBA may have cut rates once more, which would presumably limit the fallout from another Fed flinch.