A year or so ago I blogged about how the Aussie dollar was overpriced and why there would be a correction. Aivars Lode
By Rebecca Thurlow
The Australian dollar has taken a tumble the past few months. There's good reason to think it has further to fall.
The Reserve Bank of Australia has jawboned its currency lower with warnings it is set to make a rare jump into foreign-exchange markets to boost the flagging economy. But forces outside Australia, in the U.S. and China, are likely to do the heavy lifting of making the Australian currency weaker.
The world's fifth-most traded currency and a proxy for China's commodities appetite remains high historically, at 89 Australian cents a U.S. dollar versus A$1.05 a year ago. That's hampering Australia's economy, especially manufacturing and tourism, which otherwise could take up slack from a fading mining boom as China slows.
The Australian dollar has fallen 6% against its U.S. counterpart since October. That includes a dive after Reserve Bank of Australia Gov. Glenn Stevens, until recently a defender of free-floating exchange rates, said he was "open minded" about the idea of intervention.
Larger forces are a wind at the bank's back. A central-bank index of Australia's major commodity exports dropped to the lowest level in more than 31/2 years in December. The index has a tight correlation with the Aussie's performance against the greenback. With Chinese manufacturing losing momentum in December, there are few signs there will be a substantial turnaround in prices for Australia's rocks and energy.
Meanwhile, the U.S. Federal Reserve's shrinking bond-buying program comes as Australian policy rates are near historic lows. Yet the spread between U.S. and Australian bond yields hasn't shrunk substantially.
Two-year Australian bonds still yield 2.31 percentage points more than their U.S. counterpart, only slightly less than 2.43 points a year ago. With the central banks moving in opposite directions, that spread should narrow and make the Aussie less attractive.
Mr. Stevens has labeled a level above A$0.90 unsustainable for the economy. That seems to be something of a line in the sand. Even a slight bump could prompt intervention. But as Japan discovered, a more effective path to a weaker currency is loosening monetary policy more broadly. With the central bank's policy rate at 2.5%, Australia has room to cut but is worried about pumping up a stubbornly bubbly housing market.
For now, Australia can take it easy. A slowing China and a tapering Fed will do the hard work of sending its currency in the direction it wants.