Factors Affecting AUD-USD Exchange Rate and Its Impact on Australian Economy

ECONOMICS FOR PROFESSIONALS
ECON910
STUDENT ID:
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(a)The given article highlights that the AUD has witnessed depreciation to the tune of 10% in
2018 and has therefore reached the lowest level with regards to USD. The article also
indicates the various factors which are responsible for this trend. One of the key issues that
has been indicated in the article is the slowdown which has been witnessed in the Euro
region. This is apparent from the falling new orders coupled with the falling
manufacturing PMI. On account of growth concerns globally, the USD is emerging as a
safe haven to park funds to preserve value while earning some nominal returns. This is one
of the key factors which is fuelling the demand for USD and leading to its appreciation
against various currencies including AUD (Moore, 2019).
Another factor that is significant in the Australian context is the current slowdown being
witnessed in the Chinese economy (Moore, 2019). This is expected to have significant
implications for the Australian economy considering that China is the largest export
destination for Australia especially with regards to various mining commodities. A slowdown
in China would have significant adverse impact on the mining exports which are responsible
for about 40% exports from Australia. The prices of key exports such as coal, iron ore have
already started correcting in the expectation of weak demand from China going forward
(Chau, 2019). The collective impact for Australia would be lowering trade surplus or
potentially increasing trade deficit. A negative movement with regards to current account
would lower the demand of AUD and lead to depreciation against the USD (Mankiw, 2014).
The above factors tend to impact the AUD-USD exchange rate through the demand and
supply forces. Typically a given currency tends to appreciate when there is an increase in
demand of that current relative to the foreign currency under consideration. For instance, if
there is an increase in the AUD against the USD, then there would be an appreciation of
AUD. However, when there would be lower demand of a currency relative to the foreign
currency, then this would lead to depreciation of the currency (Arnold, 2015). For instance, if
there is an increase in the USD against the AUD, then there would be an appreciation of USD
leading to AUD depreciation. The supply factors also can influence the exchange rate. For
instance, if there is excess USD printing by the Federal Reserve, then the supply of USD
would increase leading to depreciation to USD and appreciation of AUD (Barro, 2015).
(b)The requisite graph for the nominal exchange rate for AUD in terms of USD has been
drawn using Excel based on the historical data obtained from RBA. This is indicated
below (RBA, 2019a).

From the above graph, it is apparent that the AUD has been stable and appreciating against
the USD in 2016 and 2017. This is apparent from the fact that the exchange rate moved from
USD 0.76 to USD 0.81 for one AUD. This may be attributed to the recovery in the Australian
economy witnessed during 2016 and 2017. Also, during this period, the Chinese economy
was also quite robust. The improvement in economic growth for Australia during this period
can be indicated from the fact that there were expectations that RBA would increase the cash
rate in the first half of 2018. However, during the last year i.e. 2018, there has been
significant depreciation in the AUD against the USD.
One of the factors responsible for this depreciation in AUD is the increased demand for USD
on account of slowdown in the Eurozone, Japan and UK. On the other hand, US economy in
the first half of 2018 showed significant signs of improvement which led the Federal Reserve
to increase the interest rates in US along with policy stance (RBA, 2019b). In this scenario,
US government bonds tend to serve as a attractive investment owing to the risk free status.
Further, situation for Australia has worsened from the middle of 2018 as there have been
news about slowdown in China in the backdrop of US –China tariff war. These fears have
been confirmed in the recent months when China has unleashed the biggest economic
stimulus package since 2008 (Laursen, 2019). Further, the domestic macroeconomic
indicators in Australia have also worsened resulting in pessimistic future outlook. The recent
RBA minutes are testimony to this as it recognises the various risks to Australian economy
(RBA, 2019b). As a result, many economists are expecting that interest rates would not be
increased by the RBA in the near future. This has led to further drop in AUD against the
USD.