AUD: Less inflation prone? - Rabobank

Jane Foley, Senior FX Strategist at Rabobank, notes that the AUD/USD may have bounced off its recent low but the currency pair remains within the downtrend that has dominated since September. 

Key Quotes

“Signals from the RBA that it will not be following the more hawkish direction of some other central banks has also been instrumental in the softer tone of the AUD in recent months.  Last night’s speech from Governor Lowe reiterates the view that the RBA is in no rush to hike interest rates.  We continue to see scope for further downside in AUD/USD towards 0.73 on a 12 mth view.”

“The apparent break down between the relationship between falling unemployment rates and rising inflation is something that has drawn much attention in 2017.  In particular, the market is wary that the Fed’s apparent resolve to maintain a tightening bias in the face of low wage inflation could be sowing the seeds of the next downturn – as illustrated by the flattening in the US yield curve.”

“Even though there is still some slack in the Australian labour market, the RBA is still very concerned about the apparent failure of the rise in employment levels to produce much wage inflation.  Overnight Lowe commented that “a distinguishing feature of Australia's recent economic performance has been the slow growth in wages”.  He gave some reasons for this, stating that “some people had been moving out of high-paying jobs associated with the mining sector into lower-paying jobs.”  He also reported that “there has been downward pressure on non-wage payments, including allowances, and an increase in the proportion of new employees hired on lower salaries than their predecessors”.  He cited that reasons for this included higher competition from works overseas and from technology.  He also cited changes in the nature of bargaining power and a drive by firms to keep down costs as contributing factors.  Lowe also picked out the increased in competition in the Australian retail industry as being key in keeping the lid on inflation more generally.  This theme was also referred to in the release of the November policy meeting minutes.”

“The RBA’s forecast is for “underlying inflation to remain slightly below 2 per cent in the near term, before increasing gradually to 2 per cent. Headline inflation was expected to rise to 2¼ per cent by the end of the forecast period, reflecting further increases in the tobacco excise and utilities prices in addition to the gradual pick-up in underlying inflation”.  The lack of strong inflationary pressures combined with the RBA’s guidance that rates are set to remain on hold in the coming months has weighed on bond yields.”

“There is now very little carry between Australian and US government 2 yr paper.  Historically, the yield spread has been supportive of AUD/USD.  Insofar as the AUD is also driven by commodity prices on the back of its coal and iron ore exports, the AUD could also be vulnerable to news of swelling iron ore stockpiles at China’s ports.  Efforts by the Chinese authorities to curb overcapacity of steel manufacturing and pollution are reportedly impacting demand for ore.  We would favour selling AUD/USD into rallies near-term.”