The Reserve Bank of Australia (RBA) sets interest rates and manages Australia’s monetary policy. Decisions are taken by the Board of Governors at 11 meetings a year and, when necessary, at extraordinary ad hoc meetings. The RBA’s primary mandate is to maintain price stability, which means an inflation rate of 2-3%, but also to “…contribute to currency stability, full employment and the economic prosperity and well-being of the Australian people.” The main tool to achieve this goal is to raise or lower interest rates. Relatively high interest rates will strengthen the Australian dollar (AUD) and vice versa. Other RBA tools include quantitative easing and tightening.

While inflation has always traditionally been considered a negative factor for currencies because it generally lowers the value of money, in state-of-the-art times the opposite has been true with the relaxation of cross-border capital controls. Moderately higher inflation is currently prompting central banks to raise interest rates, which in turn is attracting more capital inflows from global investors looking for a lucrative place to stash their money. This increases demand for the local currency, which in the case of Australia is the Australian dollar.

Macroeconomic data measures the health of an economy and can influence the value of its currency. Investors prefer to invest their capital in economies that are sheltered and growing rather than uncertain and shrinking. Greater capital inflow increases aggregate demand and the value of the national currency. Classic indicators such as GDP, PMIs for industry and services, employment and consumer sentiment surveys can influence the AUD. A mighty economy may prompt the Reserve Bank of Australia to enhance interest rates, also supporting the AUD.

Quantitative easing (QE) is a tool used in extreme situations where lowering interest rates is not enough to restore the flow of credit in the economy. QE is the process by which the Reserve Bank of Australia (RBA) prints Australian dollars (AUD) to buy assets – usually government or corporate bonds – from financial institutions, thereby providing them with much-needed liquidity. QE usually results in a weaker AUD.

Quantitative tightening (QT) is the inverse of QE. It is undertaken after quantitative easing, when economic recovery is underway and inflation begins to rise. While under QE the Reserve Bank of Australia (RBA) buys government and corporate bonds from financial institutions to provide them with liquidity, under QT the RBA stops buying more assets and stops reinvesting maturing capital into bonds it already holds. This would be positive (or bullish) for the Australian dollar.