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Dollar to dive?

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by Peter Switzer

For those who have enjoyed the fruits of a strong Aussie dollar by holidaying overseas or by frustrating local retailers by purchasing foreign made products over the internet, make hay while the sun shines as it might not last!

Increasingly, many experts see the local parity party coming to an end this year with the dollar diving into the low 90 US cent-level.

Making predictions

Of course, even going back to my teaching of economics at the University of New South Wales, the dollar was a standout economic concept which seemed to defy theory. It made me create my standard prediction for our dollar that in the future “it could go up or go down or stay the same!”

However, other forecasters have shown more courage and have often been left with egg on their face. I know one chief economist who has to toe the bank’s currency team line on the dollar but he’s often at odds with their bold predictions, which are regularly wrong!

In late December, while I was still swanning in New York, I came across this OECD take on our currency: “Aussie dollar is 31 per cent overvalued”.

For the past two years, commodities-related currencies have been a great bet for investors.

Rising currencies

The currencies of Australia, Canada and New Zealand have appreciated at least 20 per cent since the start of 2009 and you can partly blame the respective central banks for raising interest rates to fight inflation as their primary production export prices reacted to China’s and other fast-growing economies’ demand.

Our dollar has frequently broken through parity with the greenback recently and hit a record high of 75 euro cents before Christmas.

Bloomberg News surveys of economists and key currency players think the Aussie dollar sinks this year. That said, the survey doesn’t predict a devastating dive with the median estimate of 29 forecasts leaving the dollar at 98 US cents, however, these predictions were made before some substantial upgrading of the US economic growth forecasts.

US growth

Yesterday I pointed out that Goldman Sachs has projected the US economy growing by five per cent next year and if this happens, the US dollar is likely to gain ground against the other currencies. Also a part of this growth would be down to the low level of the greenback — devaluations bring on growth.

On 7 January, Macquarie Bank’s Annette Martins looked at her team’s view on the dollar for 2011.

“For the USD to resume heading south, the US economy would need to under-perform in 2011 — a good benchmark is global growth which is forecast to come in around four per cent this year,” she said. “At this stage, economists remain optimistic about the US economy. The amount of monetary and fiscal stimulus currently in train (and the threat of more) is certainly conducive to this view. Macquarie Economics is forecasting the US economy to grow by close to four per cent this year.”

Note that even her view was based on four per cent, not the five per cent spruiked by Goldman Sachs.

More jobs needed

However, she argued that for the US economic recovery to be sustainable, the US must continue to make up for the 8.36 million jobs lost during the recession. At the moment the Yanks have only made around a million jobs or so but there are some good omens that are hard to ignore.

“A key positive sign that employment may once again be gaining traction is initial jobless claims dipping below 400,000 for the first time since July 2008 in the last reading for 2010 and the fact that the US manufacturing sector has expanded for a 17th straight month in December,” Martins said.

Greenback traps

So signs that a strong economic upswing is underway should prove supportive of the USD over the first half of 2011 but on the other hand, she argues, “the USD could come under pressure again as the US government’s ever-growing budget deficit comes under increased scrutiny. It may even prompt credit rating agencies to review the US’s pristine AAA credit rating.”

Another trap for the greenback will be the current account deficit and China appreciating its currency would help the Yanks, so that’s a big watch for currency punters this year.

“For the USD to trade higher sustainably, not only does the US need a strong economic upswing which produces millions of jobs, they also need a) credible plans to get their fiscal finances in order and b) to improve their current account position,” Martins summed up.

And, as she concluded, that’s “easier said than done!”

Poor retail and job ads

Recent readings on the Oz economy confirm that the Reserve Bank has gone too hard on interest rates. Only this week retail and job ads were disappointing.

Retail sales rose by just 0.3 per cent in November after the 0.8 per cent slide in October.

“Over the past year, retail spending has risen by just 1.3 per cent – marking the second weakest reading in five years,” said CommSec’s Craig James. “This was only surpassed by the one per cent annualised growth rate in the year to May 2010.”

And there was worse news for jobs with the Advantage internet job index falling by 2.3 per cent in December – "marking the biggest fall in job advertisements since July 2009".

Higher commodity prices to help?

It’s not surprising that experts see a falling Oz dollar this year but won’t higher commodity prices help as China and India keep growing and the US gets stronger?

“An increase in commodity prices is quite broadly expected, so it’s priced in for the commodity currencies,” said Paul Robinson, the head of European currency strategy at Barclays Plc in London.

However, he predicts the Aussie will weaken to 92 cents by the end of 2011. “The Australian and New Zealand dollars are very expensive.”

So if the Yanks grow and create jobs, I expect the US stock market to head up dragging the greenback, which should weaken the commodity currencies of the world. And if the RBA eases up on its relentless rate rises, then there will be more weight on a falling dollar.

All this said, there are a hell of a lot of 'ifs' in this analysis and it explains why I always argue that the Aussie dollar will go up or go down or will stay where it is!

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Published on: Tuesday, January 11, 2011