Central banks and the Australian dollar

See the latest Australian dollar analysis here:

Macro Morning

There is an old trading adage which I subscribe to that says you should not overtrade. It’s the same with blogging about currencies – sometimes it is best to stay on the sidelines. So I’ve been quiet as there hasn’t been much to say on the Aussie this week. Really, it has just traded in a range, tested support at 1.05 and found it solid, and is now back up at 1.0667 testing fibonacci resistance from the past week or so’s range.

It is fair to say that this quiet trade is indicative of a currency market that is lacking in catalysts to break recent ranges  at present (perhaps all the volatility has sapped traders nerves) while the USD tries to work out what its doing, while Japan slips back into recession and while Europe deals with Greece and the succession to DSK’s Presidency at the IMF. So the focus is simply elsewhere.

But there is something that I found interesting in the RBA minutes with regard to the currency earlier this week that is worth drawing out in the context of the long run trend for the AUD and what it means for exporters and our economy.

The RBA said (my bolding),

The Australian dollar had appreciated to a fresh post-float high against the US dollar. On a trade-weighted basis, the currency was at its highest level since 1985 and had appreciated by 6 per cent since the start of the year. While this partly reflected the general depreciation of the US dollar, the Australian dollar had tended to rise more than most other currencies. An important influence had been purchases by other central banks seeking to invest their official reserve assets.

Now we have talked about the impact of diversification of investors into the AUD many times. It’s all about the “Investment” fundamentals I talk about all the time.

But what the paragraph above does do, along with a chart I’ve put below, is tell us what the RBA is thinking and crucially doing about the AUD’s strength.

This chart is from the RBA Statistical tables with the Blue bars representing RBA “Market” transactions in either buying or selling foreign exchange. Above the line it is buying FX, that is selling Aussie, while below the line it is sellinig FX and buying Aussie.

The stark thing for me is how aggressively the RBA resisted the pulse higher in 2003/2004 and in 2009 compared to both 2007/8 and now.

Now, it is important to know that the RBA says it intervenes only when markets get disorderly to add liquidity. They move when they think that the level of the AUD/USD (for want of a better indicator and because it represents the bulk of the trading volume) is out of line with the economic fundamentals.

The massive intervention on the buy side to support Aussie during both the Asian crisis and then again when Lehman Bros. fell over speaks for itself, but equally so does the lack of Aussie buying (in massive interventionist volume anyway) around the lows back in 2001. They mustn’t have thought the rate was too far out of wack.

And so it seems is the case now. In highlighting in its minutes that other central banks are buying the Aussie for their reserve assets they are implicitly signalling that we are an attractive destination but equally they can’t stand in the way of the freight train . No surprises there.

Indeed, the RBA’s current passivity speaks volumes about how they view the Aussie’s appreciation as it is holding back the need to hike rates faster and further, which gives them time to assess what’s really going on in the economy. No matter the hawkish  rhetoric in their minutes or from the bullhawks.

This doesn’t help us with a resolution as to whether the Aussie is going to break down through 1.05 or move back to 1.10. But it does reinforce that we all need to get used to a higher Aussie on average than the past decade or two. We’ve been singing from that hymm book for some time but clearly the RBA and their central bank cousins agree.

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  1. Why would the RBA be buying & selling FX if the AUD was not its obligation, in other words, the RBA is obliged to maintain value of the AUD?

    • As was pointed out to me earlier in the week JMD, the primary goal of the RBA (as per the appropriate act in 1957) is “to maintain currency stability”. No idea what that means in today’s economic environment vs the 19 50s, but thar ya go.

      • It means the Australian dollar is the obligation of the Reserve Bank of Australia. It is obliged to maintain the value of its credit just like any bank. A bank can only return the money it borrowed from you if it maintains the value of its ‘assets’, thus its liabilities (your deposit).

        I’m not saying the RBA does ‘maintain currency stability’ but that is the essence of irredeemable bank credit – volatility & eventually…. worthlessness. Making the central banks liabilities legal tender does not make them cease to be obligations & reduce volatility, just the opposite. Central bankers are not alchemists nor gods. They cannot turn lead into gold or water into wine or one loaf of bread into thousands.

        • Deus Forex Machina

          I think you are nuancing your argument now JMD…or I’m getting your point 🙂

          • Excellent, I’ll have you arguing the benefits of a strong dollar policy yet.

            Nice graph by the way. Have you tried looking at money market spreads (treasury notes, swap rates, bank bills) v the AUD/USD?

          • Deus Forex Machina

            Hey JMD…yep they are all part of the toolkit.

            Perhaps I’ve got more to write about than you think.

            And NO…I don’t think I’ll be arguing for a strong AUD…YET

  2. Good post DFM.

    I’m particularly interested in knowing that many of the central banks agree it is a good time to be buying the Aussie dollar.

    10 years ago or so they all agreed it was a good time to sell Gold, and we all know what has happened since then. Gold has gone ballistic.

    So the consensus of the mob of central bankers, like the consensus of any mob, has been a good contrarian indicator in the past.

    BTW, I agree 100% with your first point, sometimes it is best to stay on the sidelines. I’d guessed that’s why you’d been quiet this week. There hasn’t been much reason to trade or blog the AUD/USD this week, there’s no clear trend in the short term. Wait and see, is the best we can do. I think it’s caught between the downwards pull of a strengthening USD, and the upwards pull of an S&P 500 that doesn’t want to roll over yet. Net result, sideways this week.


    • “10 years ago or so they all agreed it was a good time to sell Gold, and we all know what has happened since then…”

      Thanks for that, AvidC. An excellent observation.

    • Deus Forex Machina

      You are so right in that observation – conventional wisdom isn’t often right.

      I read a good blog on that this week…was it here on Macro??? Apparently Galbraith came up with the phrase as a term of derision…on the money I’d say.

      You know my thoughts…I want it to go down, I reckon unless the USD starts crashing again it will but in an unstable but benign global environment the AUD will retain support in the .90’s…just hope we get there

        • Alex Heyworth

          Ah, but did he really? What he sold was gold ETFs. There is a lot of speculation that this has been offset (or more than offset) by purchases of physical gold.

    • There was a reason for the Central Banks to sell off their gold reserve in a coordinated manner. In the aftermath of the massive devaluation in Asia and Russia, traders who short currencies made a lot of money. The coordinated selling off of gold heads off a competition between the Central Banks for gold reserve, and also makes it easier to shore up another currency via a currency swaps. They didn’t do it because they think the price of gold is going down.

  3. However something is just not right….
    We have the deflationary USD and the inflationary AUD… and still the AUD is appreciating? Makes no sense. Salaries in Australia are growing faster than in the US and Europe, and on top of that, the AUD is appreciating? How expensive in Australia becoming for foreign money? I thought that inflation causes money to lose value vs real assets… Soon the average salary in Australia will be double the US and Europe? Yeah, sure…

    The truth is that interest rate differential makes it cheap to short USD and Yen. Investors and traders are buying the AUD because they need somewhere to put their money (“risky” assets) and it has been a one-way trade. Go with the trend. However they have no intention what-so-ever to hold it. Watch out! This is a real AUD bubble and when it pops it will be fast and hard.

  4. For every seller there is a counterparty buying. Who bought the Gold that Western Central banks were selling? China and India. They are now buying the AUD, CAD, Gold and Silver. 10 Years ago they were right.