AUD Volatility: Preparing for an uncertain future
- Written by Peter Dragicevich, Currency Strategist APAC, Corpay Cross-Border Solutions
The AUD has endured some turbulent times during the past financial year. The conflict in Ukraine, rampant global inflation, aggressive interest rate hiking cycles, both in Australia and abroad, and China’s COVID-19 lockdowns and subsequent reopening are some of the events that have triggered AUD volatility over the past 12 months.
While the ~10 cent range the AUD has traded in over FY23 might seem wide, history shows it is not out of the ordinary. It shouldn’t be forgotten that the AUD can be quite a volatile currency. As the chart shows, since 1986 the AUD has, on average, traded in a ~13 cent range over a financial year. And in the periods in and around US/global economic downturns and heightened market uncertainty, the AUD’s trading ranges are typically even wider.
Economically, the latter environment is what we think we may be heading into. The very sharp rise in interest rates has been the most abrupt policy tightening unleashed in several decades, and the impacts are only now starting to come to the surface. Various studies undertaken by central banks, including the RBA, show that it normally takes ~12-months for policy changes to have their full effect. This suggests that for the global and local economy things should get worse before they start to look better.
In broad strokes, tighter monetary policy is designed to constrain activity across interest rate sensitive areas such as consumer spending and construction. The step down in growth and greater economic uncertainty should then temper business investment, with the weaker conditions expected to ultimately spill over into the jobs market and push unemployment higher. The softening in labour market conditions should, in time, slow wage growth, and help cool inflation.
It sounds simple; however, this can be a painful process, particularly for those households and businesses directly impacted. And unfortunately, history shows that this is the price that usually needs to be paid to control inflation. It is also a backdrop that can create greater economic volatility, especially once amplifiers such as high debt and job losses kick in.
Foreign exchange (FX) is a relative price, and actual outcomes compared to expectations are important. We think that a lot of negativity surrounding the outlook that is being factored in to bring the AUD down to current low levels. Our baseline forecast is for the AUD to hover in a ~$0.65 to ~$0.6750 range over the next few months as the global economic downturn gathers pace. However, beyond that, as the worst of the slowdown passes and lower inflation provides central banks the scope to openly discuss an easing cycle to support growth, we are looking for risk appetite to improve, the ‘overvalued’ USD to weaken, and cyclical currencies like the AUD to pick up. We are forecasting the AUD to begin a slow rope climb later this year and rise back up to ~$0.72 by mid-2014. However, history suggests the trading range over this period could be quite wide.
Daily Bulletin
