The Australian dollar (AUD) is falling against the US dollar (USD) on Friday as solid US economic data and hawkish rhetoric from the Federal Reserve (Fed) keep the dollar firmly supported. At the time of writing, AUD/USD is trading around 0.6684, down about 0.20% on the day and could end the week with marginal losses.
The pair is struggling to attract buyer interest after a series of upbeat U.S. releases that reinforced expectations that the Fed is likely to stick to a cautious, gradual path of easing rates, reducing hopes for near-term rate cuts.
Data released this week showed that conditions in the US labor market remain stable. Weekly jobless claims fell to 198,000, beating expectations of 215,000, while regional manufacturing sector indicators also improved, with Empire State and Philadelphia Fed indicators returning to positive territory.
Inflation data from the beginning of the week delivered a mixed but still relatively forceful signal. The headline consumer price index (CPI) rose 0.3% m/m in December, meeting expectations and keeping the annual rate unchanged at 2.7%. Core CPI increased by 0.2% m/m, falling below the forecast of 0.3%. On an annual basis, core inflation fell to 2.6%, below expectations of 2.7%.
Markets are fully pricing in no change at the upcoming January meeting and broadly expect the Fed to remain unchanged throughout the first quarter. According to the CME FedWatch Tool, June is currently seen as the most likely date for the first rate cut this year, with a probability of 46%.
On the other hand, the Reserve Bank of Australia (RBA) is widely considered to have ended its monetary easing cycle as inflation continues to remain above target. Expectations are growing that the central bank will keep interest rates unchanged for most of the year, and some market participants even believe that the next move will be a rate hike.
Looking ahead, investors will focus on a tight economic calendar next week. In Australia, the focus will be on the TD-MI inflation rate and employment data. At the same time, China’s Q4 GDP data, December activity data and the People’s Bank of China’s decision on interest rates will be released, which could be a key factor for the Australian given Australia’s close trade ties with China.
In the United States, investors will also be monitoring the gross domestic product (GDP) release (annualized) and the Personal Consumption Expenditures (PCE) inflation report for fresh clues about the monetary policy outlook.
Australian Dollar FAQs
One of the most crucial factors for the Australian dollar (AUD) is the level of interest rates set by the Reserve Bank of Australia (RBA). As Australia is a resource-rich country, another key factor influencing price is the price of its largest export, iron ore. The health of the Chinese economy, its largest trading partner, is a factor, as well as Australia’s inflation, its dynamics and its trade balance. Market sentiment – whether investors take on riskier assets (risk-on) or look for sheltered havens (risk-off) – also matters, with positive risk for the AUD.
The Reserve Bank of Australia (RBA) influences the Australian dollar (AUD) by setting the interest rates that Australian banks can lend to each other. This affects the level of interest rates throughout the economy. The RBA’s main goal is to maintain a stable inflation rate of 2-3% by adjusting interest rates up or down. Relatively high interest rates compared to other major central banks support the AUD, and the opposite for relatively low ones. The RBA may also utilize quantitative easing and tightening to influence lending conditions, the former being AUD negative and the latter AUD positive.
China is Australia’s largest trading partner, so the health of the Chinese economy has a major impact on the value of the Australian dollar (AUD). When the Chinese economy does well, it buys more raw materials, goods and services from Australia, increasing demand for the AUD and increasing its value. The opposite is the case when the Chinese economy is not growing as brisk as expected. Positive or negative surprises in Chinese growth data therefore often have a direct impact on the Australian dollar and its pairs.
Iron ore is Australia’s largest export, worth $118 billion a year in 2021 figures, with China being the main buyer. The price of iron ore can therefore influence the Australian dollar. Generally speaking, if the price of iron ore increases, the AUD also increases, as aggregate demand for the currency increases. The opposite is true when the price of iron ore falls. Higher iron ore prices also tend to result in a greater likelihood of a positive trade balance for Australia, which is also positive for the AUD.
The trade balance, or the difference between what a country earns from exports and what it pays for imports, is another factor that can affect the value of the Australian dollar. If Australia produces a highly sought after export, then its currency will only appreciate in value as a result of the excess demand created by foreign buyers wanting to buy its exports compared to spending on import purchases. Therefore, a positive net trade balance strengthens the AUD, and the effect is opposite if the trade balance is negative.
