What’s fair value for a currency? Actually, if you think about it, it’s a pretty stupid question, even if we ask it all the time. There is no such thing as fair and frank in the ever-shifting foreign exchange market – it’s what the consensus of buyers and sellers says is the value at any given moment. But still, the question will always be with us.
If the chartists claim one value range for the Australian dollar and the fundamentalists claim another, what about the political value? A currency is among the most politicised instruments available to a government, and politics is about emotions. It’s about bringing people to your side of thinking. So the currency is as much about numbers as it is a prime instrument to bring society to a certain way of thinking.
Meanwhile, of course, business goes on, simply seeking the best avenue to make deals, regardless of central bank policy, and therein lies the rub. Which do you believe – the government with a view, or business with a profit in mind? At the moment, the Aussie dollar is locked between a business view and a political view. The political view is the one owned by the Reserve Bank of Australia. Of course the RBA says its views are independent of the government, but it has a very strong view and it is a government organisation.
The RBA had said it no less than four times this month and it has been saying it for what seems to be months. Despite recent falls, the currency still remains high enough to slow the economy as the Reserve Bank maintains benchmark rates. Despite the appearance of a decline, what has not been properly recorded is that it has appreciated about 5% this year overall, the most after the US dollar among 10 developed-market currencies tracked by Bloomberg Correlation-Weighted Indexes.
Big four bank view
If the relative standing of the Australian dollar is being generally judged by one standard, that its, its US counterpart, is that a misleading one? One of the nation’s big four banks, Westpac, believes so. It isn’t buying the rhetoric from the RBA, or perhaps more accurately, it is explaining why the RBA’s constant belly-aching won’t cut with the markets long term. Westpac predicts the yield premium Australian bonds offer over US Treasuries won’t narrow. Nor would it matter if the Federal Reserve moves to raise its benchmark interest rate.
While the spread between Australian and US 10-year government bonds could narrow to 72 basis points at the end of the year, it is set to widen to about 90 basis points in 2015, according to bond market analysts surveyed by Bloomberg. At 3.27%, Australian benchmark yields are among the highest for developed nations, only toppled by the yields available on Greek, Icelandic and New Zealand bonds. Meanwhile, US Treasury yields showed limited reaction this month to strong US economic data, including better-than-expected retail sales, Westpac said.
This is interesting because National Australia Bank’s foreign exchange expert says a similar thing. “If you only had two things with which to forecast a currency, I’d say give me the terms of trade and give me interest rate differentials between Australia and the US,” says NAB’s global co-head of foreign exchange strategy, Ray Attrill. “When you talk about terms of trade, when you talk about interest rate differentials, they don’t necessarily have predictive powers, but they are telling you if the currency is significantly out of whack today compared to how it’s behaved historically in relation to those variables.”
So according to Westpac, nothing is out of whack. It says the failure of US yields to rise despite the positive outlook, seriously questions whether the US dollar will continue to sustain a rally that everyone thinks is on the cards. It will falter they say, against high-yielding currencies such as the Australian dollar, says Westpac’s Sean Callow, a strategist in Sydney. “Over the next few months the Aussie will trend higher against the US dollar,” he says.
RBA unhappy
So put the politics aside – and if you agree that interest rate differentials do the strength of a currency make, then you will go with the Westpac view. Conversely, if you agree with the RBA – and believe what everybody else is saying – the Australian dollar will be at US75 cents to US80 cents around this time next year. Whatever the benefits of the already-lower currency, the RBA appears to be permanently discontent. Governor Glenn Stevens say the current value “is still offering less assistance than would normally be expected in achieving balanced growth in the economy”.
I don’t know what Stevens expects when he has kept base rates relatively high against all the other first world countries – at 2.5% – for 14 months in a row. Pull the lever, sir. Perhaps you might find the currency outcome differs somewhat on the fifteenth.
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