It has been a complicated year so far for the Reserve Bank of Australia. The central bank has had to deal with weak inflationary pressure, an economy that is at the mercy of slowing demand from China and a strong currency, which has been bolstered by investors desperately chasing higher yields against the backdrop of constant monetary easing from major central banks. In spite of two interest rate cuts in less than four months (May and August), the Australian dollar remains under heavy buying pressure as monetary easing becomes the new normal amongst central banks.
Back in May, the first rate cut had the expected effect as investors closed their long Aussie positions. At that point the market was still fearing the central bank, ready to play its game by staying away from the AUD. However, at the time of the second rate cut in August, the market already had plenty of time to question the central banks’ ability to actually drive their respective currency. The failure of the BoJ to effectively weaken the yen has opened the door for a broader questioning of ultra-accommodative monetary policies.
Therefore, the effect of the August rate cut was short lived as AUD/USD climbed back to its initial level in less than a week. It is becoming increasingly evident that central banks are losing their grip on FX when they want to weaken their respective currency. However, mounting rate hike expectations still have the same effect, especially when the central bank has inflation expectations under control. Therefore, we would not be surprised to see the Aussie weaken in the next few weeks – especially against the greenback – as the market (again) anticipates the Fed to increase borrowing costs.