RBA’s discomfort with the strong exchange rate has eased; concerns on commodity export prices increase
As expected the RBA maintained its view that the most prudent course for monetary policy is likely to be a period of stability in interest rates. Economic growth is expected to be a little below trend for the next several quarters with a degree of spare capacity in the labour market. Inflation is also projected to be consistent with the 2-3% target even with lower levels of the exchange rate. Indeed, we expect inflation to trend lower from 3% in the second quarter to closer to 2% in the second half of this year. The central bank seems more concerned with China’s growth which has impacted Australia’s key commodity export prices and mentioned that “commodity prices important to Australia have declined further in recent months.” However the RBA’s concern on the strong Australian dollar has eased as the phrase “the exchange rate remains above most estimates of its fundamental value’ in the previous statement was omitted. Nevertheless, the central bank reiterated that the AUD remains high by historical standards and is offering less assistance in achieving balanced growth in the economy. In the short term, we expect the AUD to remain supported above 0.87 with upside limited towards 0.8827 ahead of this thursday employment report. In the past month, overcrowded speculative long futures positions in the AUD has been liquidated to neutral levels (slightly negative). As such we expect the AUD to find some support around this year’s low of 0.8660 and 0.8540 (50% fibonacci retracement from 2008 low of 0.6011 and 2011 high of 1.1081) in the remaining months of 2014. Our view is that the RBA is likely to tighten monetary policy by 50bp in late 2015 and that the AUD/USD will decline towards 0.80 by the end of next year remains unchanged.