Oh dear. While the pollies have been playing their games, the dollar has been falling and there’s even talk in the market of it going below US70¢. Is this a worry? Short answer: naah.
At the local close on Friday the Aussie was at US72.8¢. That’s down from a recent peak in January of almost US81¢. Is that a bad thing?
Depends who you ask. You can find plenty of people who’ll tell you a low dollar is bad and a high dollar is good. But most manufacturers, farmers and miners will tell you the opposite. The lower the better, they say.
Truth is, a fall in the dollar has some advantages and some disadvantages; a rise in the dollar has the opposite set.
A lower dollar has the disadvantage of making imported goods – and overseas holidays – more expensive. It will add to inflation. But it has the advantage of making our export and import-competing industries more internationally competitive on price.
An Australian item priced in Aussie dollars will be cheaper for foreigners to buy; an Australian item priced in US dollars will now bring more Aussie dollars to an Australian exporter. And overseas-produced goods and services will be more pricey relative to locally produced.
Since our inflation rate is unusually low, and our economy should be growing faster, that doesn’t sound like a bad deal to me.
But that’s just the first part of the story. Because a fall sounds bad and a rise sounds good, many people assume a falling dollar must be happening because we’ve stuffed up.
As we’ve seen, wrong on the first count. And most likely wrong on the second. The exchange rate is a relative price – the value of our currency relative to the value of another country’s currency. In this instance, the Yankee dollar.
Any change in that rate of exchange could be explained by happenings on either side of the Pacific – or a bit of both.
At present, however, all the action’s on the American side. The US economy is growing strongly, with President Trump stimulating an economy already close to full employment by cutting company and personal taxes.
So higher inflation is a significant risk. The US Federal Reserve has already raised the US official interest rate from about zero to about 2 per cent (significantly, higher than our 1.5 per cent), and may well raise it further if it gets more concerned about inflation.
A strongly growing economy, with rising interest rates attracting more capital inflow, is an economy with an appreciating currency. In recent times the greenback has been rising in value not just against the Aussie but almost all currencies.
A fact too few people realise is that, though the Aussie has fallen against the greenback (and the currencies of a few developing countries that shadow the greenback), it hasn’t changed much against most other currencies.
We don’t realise that because we’ve long had the bad habit of regarding the Aussie’s value against the greenback as the exchange rate rather than just one of many.
Economists, however – and particularly those at the Reserve Bank – know not to take such short-cuts. They focus on our “effective” exchange rate – the rate against a basket of our trading partners’ currencies, with each country’s currency weighted according to its share of our two-way trade (exports plus imports).
This is the trade-weighted index, or TWI (pronounced “twy”). Since our trade with the US is less than most people assume, the US dollar’s direct weight in the basket is just a bit over 10 per cent.
So whereas since January the Aussie has fallen by almost 10 per cent against the greenback, it’s fall against the TWI has been a more modest 4.4 per cent.
Which is why the country’s economic managers are neither greatly worried nor greatly excited by the dollar’s movements in recent times.
They see the TWI as simply as being around the bottom of the band in which it’s been moving for the past few years. No biggie.
For someone planning an overseas holiday, it’s not good news if you’re off to the States. But doesn’t make much difference if you’re going to Britain, Europe, N’Zillund or Bali.
But could the Aussie fall a lot further against the greenback? It could, and that’s what economic theory would lead you to expect. But I don’t recommend making currency bets on the basis of economic theory.
As a Reserve Bank assistant governor admitted recently, if she knew how to forecast the exchange rate with any accuracy she wouldn’t be here, she’d be on her private island.
Even so, should the dollar end up falling below US70¢ in coming months, I can’t see the Reserve getting too worried. As I say, a bit more inflation would do little harm and a boost to our export industries would be handy.
