The former boss of BHP, Paul Anderson, once said a country’s currency is a bit like its share price.
If a country is in good shape its currency will be high, just like the share price of company in good shape.
- The Australian dollar has dropped 11 per cent from the start of the year
- US economic growth is in excess of 4 per cent with unemployment at an 18-year low of 3.8 per cent
- Rates in the US are now higher than Australia, with high rates attractive to big investors
And on the other side, if the country is in poor shape its currency will be low, just like the share price of a company in poor shape, such as Myer or AMP.
So, with all the recent talk of the Australian dollar falling, you may be forgiven for thinking Australia is in poor shape.
Let’s look at the facts.
At the start of the year the Australian dollar was buying 81 US cents.
Today it’s buying 72 US cents. That’s a fall of 11 per cent.
What that means is, if you’re planning a holiday in the United States anytime soon, you will be paying 11 per cent more for whatever you purchase there.
It also means imports from the United States are 11 per cent dearer than back in January and the US is one of Australia’s biggest trading partners.
According to the Department of Foreign Affairs and Trade, total imports from the US last year were $31 billion, with passenger vehicles the biggest item.
In theory, we should be paying 11 per cent more for goods from the US, but the reality is that we live in a globalised, internet-empowered world, which makes it harder for companies to pass on cost increases.
That means we probably won’t see many price hikes, which is good news for us as consumers.
Australian exports to the United States totalled $12 billion last year. They’re now 11 per cent cheaper, meaning they’re much more competitive, which hopefully will see Americans buying more Australian products.
The flow on, if it’s sustained, will be higher income for Australia and hopefully more jobs.
US demand drives downward pressure on other currencies
So, why has the Aussie dollar fallen so far against the greenback this year?
It goes back to that comment by BHP’s Paul Anderson.
The US economy is roaring ahead, with economic growth in excess of 4 per cent and unemployment at an 18-year low of 3.8 per cent.
Its central bank, the Federal Reserve, has lifted interest rates twice this year and foreshadowed more rate hikes to come.
Rates in the US are now higher than Australia, where the Reserve Bank’s official cash rate has been 1.5 per cent for nearly two years.
Big investors, with the power to move currencies, chase high interest rates.
And they prefer to invest in the United States because it has the deepest and most liquid capital markets in the world (ie. they’re pretty certain they will get their money back when they want it).
As a result, as capital moves towards the US, demand for US dollars is soaring, putting downward pressure on other currencies.
That’s why the Aussie dollar is down and why other currencies are also suffering.
However, it’s worth keeping some perspective.
As recently as two years ago, the Aussie was at 69 US cents.
And, at 72 US cents, it’s only a few cents below its long-term average.
The Australian economy is in good shape, but it’s not firing as strongly as the US, so, to use the Anderson share price analogy again, you would expect the US dollar to be higher.
In 2011, when the positions were reversed, and Australia was roaring ahead on the back of the mining boom while the US was still being belted by the effects of the GFC, the Aussie dollar was buying $1.10 US.
In other words, the Aussie dollar’s current position is really a story about US dollar strength than Australian dollar weakness.
A look at other currencies tends to support that view.
Holiday destinations where your dollar will go further
For those thinking of overseas travel to places other than the US, the news isn’t so bad.
The Australian dollar is little changed against other freely floating currencies such the British pound, the Euro, and the New Zealand dollar.
It’s down 9 per cent against the Japanese yen as the Japanese economy shows signs of sustained economic improvement.
Turkey though is a place where your dollar will go a long way, thanks to the political and economic turmoil which has engulfed the country.
The Lira has fallen 56 per cent against the Australian dollar so far this year.
Will the Aussie fall further against the greenback though?
The Commonwealth Bank is forecasting that 72 cents may be as low as it goes for now.
Autralia economy news