dollar dazzler

SMH March 30, 2011: Does the Australian dollar’s meteoric rise to a post-float record of $US1.03 this week make you feel uneasy? The gut reaction of many people to a rise in the dollar is a combination of pride and fear.Pride that in the international beauty pageant for currencies Australia is wearing the crown but fear about what will happen to our manufacturing and tourism industries when the turbocharged dollar makes our exports more expensive for foreigners to buy.

The good news is you can relax. The higher Australian dollar is on balance a good thing for the Australian economy although it will require painful adjustment for some.

Several factors are responsible for driving the dollar to its highest in nearly three decades, the simplest being that more investors want to buy more dollars than before. Ultra-low interest rates in major world economies have increased the relative appeal to investors of holding Australian dollars. The Aussie dollar is also increasingly viewed as a way for savvy investors to get a slice of the China boom without having to invest directly in Chinese companies or shares.

And while fluctuations in the dollar may unsettle some, we should take comfort that the floating dollar is doing exactly what it is supposed to do – cushioning us in downturns and restraining us in upswings.

Indeed, throughout earthquakes and other natural disasters this year the Australian dollar has proved one of the world’s most effective economic shock absorbers.

After the Japanese earthquake, it reacted to this potential threat to world growth by sinking back into the 90¢ range, temporarily easing pressure on our export industries.
In contrast, the yen soared as global investors sought safe assets, further hurting Japan’s devastated exporters.

Viewed over a longer period, the higher Australian dollar is helping us to cope with the biggest national income shock in our history, the commodity price boom. By making imports cheaper, the currency is helping to cool inflation pressure in an economy operating at nearly full capacity.

Of course, there are downsides. Manufacturers, tourism operators and educators have found it harder to sell their products to foreigners. Despite arguably brighter economic prospects here, the Australian sharemarket has not rebounded by as much as other world sharemarkets. This has puzzled some observers but is intrinsically linked to a higher dollar.

About one-third of listed company earnings are booked in US dollars, meaning that after being transferred back into Australian dollars, they are worth less.

It’s tough for individual companies and individual employees, who may lose their jobs as employers cut costs or close down. But from an economy-wide perspective, the squeeze on the non-resources parts of the economy is helping to ease wage and inflation pressure by freeing up labour and capital to fill skills shortages in faster-growing parts of the economy, such as mining.

Indeed, most households should be cheering the dollar’s meteoric rise. By relieving inflation pressure, the higher currency helps to keep interest rates lower than otherwise. The Reserve Bank has less need to quash inflation pressure by stamping down on economic activity with higher borrowing costs. A higher Aussie dollar also helps to spread the benefits of the mining boom by increasing the purchasing power of all consumers.

As the Reserve Bank’s assistant governor (economic), Phil Lowe, noted in a recent speech, the price of clothing has fallen 6 per cent over the past year, according to the Bureau of Statistics price indexes. Retailers, says Lowe, have passed on the savings from a higher dollar in an attempt to get us spending again. The price index for major household appliances has fallen 4 per cent, that for furniture and furnishings is down 1.5 per cent and the cost of audio, visual and computing equipment is down a whopping 18 per cent.

But how long can it last? For some time, according to an interesting analysis by the chief economist at AMP Capital Investors, Shane Oliver, who says that most estimates of the dollar’s “fair value” only take into account movements in the currency since it was floated in 1983. In that time, the dollar has been worth as little as US48¢, in 2001.

But looking further back, to a time when the dollar’s value was pegged against the pound and then the greenback, it appears the true aberration may not be the past few months of parity with the US dollar but the past three decades of sub-parity.

On Oliver’s numbers the Australian currency was worth $US2.40 in 1901 and remained above $US1 until 1982. (Of course, the Australian dollar was only invented in 1966 with the introduction of the metric system. Before that the domestic currency was known as the Australian pound).

In fact, it is the last three decades that have been unusual in Australia’s economic history, being periods of particularly low commodity prices and a perception of Australia as an
“old economy”. In today’s commodity boom, nothing could be further from the truth.

Oliver is tipping the dollar will average about $US1.10 in coming years.

Many an economist has been caught short on bold currency predictions, but a higher Australian dollar looks set to be part of the economic landscape for some time to come.

Ross Gittins is on leave.

This entry was posted in Uncategorized. Bookmark the permalink.

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )


Connecting to %s