The Reserve Bank of Australia cut interest rates, sending the Australian dollar sharply lower. The Australian dollar US dollar exchange rate dropped to a nadir of US$0.6694.
The Australian dollar is one of the worst performers on Tuesday after the Reserve Bank of Australia cut interest rates by 0.25% to a new record low of 0.75%. This was the third time in five months that the central bank has slashed rates as it attempts to shore up the economy, lift employment and boost stubbornly low inflation.
It was not the rate cut itself that has pulled the Aussie dollar lower; the cut was broadly expected by market participants. However, the language that the central bank used was more dovish than investors anticipated
The RBA Governor Dr Philip Lowe said that “whilst the outlook for the global economy remains reasonable, the risks are tilted to the downside.” He also said that a low interest rate environment could persist for some time and that the central bank was prepared to ease further.
The more dovish stance by the RBA has moved Aussie dollar investors to assume that there could be more rate cuts on the way. This is dragging the Aussie dollar lower.
|Why do interest rate cuts drag on a currency’s value?|
|Interest rates are key to understanding exchange rate movements. Those who have large sums of money to invest want the highest return on their investments. Lower interest rate environments tend to offer lower yields. So, if the interest rate or at least the interest rate expectation of a country is relatively lower compared to another, then foreign investors look to pull their capital out and invest elsewhere. Large corporations and investors sell out of local currency to invest elsewhere. More local currency is available as the demand of that currency declines, dragging the value lower.|
Dollar Investors Look To US Manufacturing Data
The US dollar is in favour with investors for two reasons. Firstly, US economic data is not amazing, however, it is not bad either. Therefore, this suggests that the US economy is remaining resilient amid the ongoing US — China trade dispute.
Secondly, the Federal Reserve are in no rush to cut interest rates. Whilst central banks across the globe are easing monetary policy, the Fed has not given any indication that it will cut rates again this year. The more hawkish stance of the Fed next to its dovish counterparts, boosts the appeal of the dollar.
Today investors will look towards US manufacturing data. The manufacturing sector has been the weak link in the US economy; it slipped into contraction in August. However, analysts are expecting manufacturing output to have rebounded in September, moving back into expansion. A strong reading could strengthen the US dollar.
|Why does strong economic data boost a country’s currency?|
|Solid economic indicators point to a strong economy. Strong economies have strong currencies because institutions look to invest in countries where growth prospects are high. These institutions require local currency to invest in the country, thus increasing demand and pushing up the money’s worth. So, when a country or region has good economic news, the value of the currency tends to rise.|
|What do these figures mean?|
|When measuring the value of a pair of currencies, one set equals 1 unit and the other shows the current equivalent. As the market moves, the amount will vary from minute to minute.
For example, it could be written:
1 USD = 0.6784 AUD
Here, $1 is equivalent to approximately A$0.67. This specifically measures the US dollar’s worth against the Australian dollar. If the Aussie dollar amount increases in this pairing, it’s positive for the US dollar.
Or, if you were looking at it the other way around:
1 AUD = 1.4739 USD
In this example, A$1 is equivalent to approximately $1.47. This measures the Australian dollar’s worth versus the US Dollar. If the US dollar number gets larger, it’s good news for the Aussie dollar.