The Australian dollar is headed for a drop towards 68 US cents in the next year-and-a-half — if the nation’s economy continues to remain stuck in the slow lane.
That is according to Westpac’s forecast, which factors in a continued rebound for foreign economies including the US, UK and Canada, as they are likely to announce rate hikes over the next year.
Furthermore, the European Central Bank is in the process of “quantitative tightening” as it plans to slash its monthly bond purchases in half — to €30 billion ($45.6 billion).
Westpac expects the Aussie dollar to fall to 74 US cents within half a year (June 2018).
By the end of next year (December 2018) it is expected to slip further to 70 US cents, and then 68 US cents (by June 2019).
With higher interest yields overseas, the case for buying the Australia dollar may become less attractive, according to AxiTrader’s chief market strategist Greg McKenna.
“Forex traders have a predisposition to sell Aussie on rallies at the moment and to take any bearish news — data — as an excuse to hit the sell button,” Mr McKenna said.
“That the Aussie is languishing at the moment … is kind of remarkable given that the global growth outlook is so positive for the year ahead.”
Flow-on impact of US rate hike
The US interest rate decision on Thursday morning (5:00am AEDT) could be the next trigger for the local currency’s dip.
It is all but certain the Federal Reserve will raise the Federal Funds Rate to 1.25-1.5 per cent, its third increase this year.
Apart from the rate hike, the market will be paying close attention to the Fed’s forecasts for 2018 — in particular, how many times it expects to lift interest rates next year.
“The prospect of a Fed rate hike in December is 100 per cent priced in,” said Westpac’s senior currency strategist Sean Callow.
“So far, we have predicted the Fed will raise interest rates twice next year.
“But if the Fed surprises us and says it wants to lift rates three times in 2018, we’re inclined to think the greenback will benefit from higher yields, which may knock the Australian dollar down to 75 US cents.”
The Australian dollar is currently sitting at 75.72 US cents (1:20pm AEDT).
Australian jobs in focus
The other economic news which could affect the local currency is the Australian Bureau of Statistics’ jobs report (out on Thursday at 11:30am AEDT).
According to economists polled by Reuters, 18,000 new jobs will be created in November, the participation rate will remain steady at 65.1 per cent, and unemployment will be unchanged at 5.4 per cent.
But if the jobs report falls below those expectations, the impact is not expected to be so significant.
“If the Australian jobs report is softer than expected, the market won’t get freaked out, given 2017 has been a strong year for employment,” Mr Callow said.
Further headwinds next year
Westpac expects Australia’s official interest rate to stay at the record low 1.5 per cent for the whole of next year.
If the Fed lifts interest rates twice next year, as expected, that would bring its rate to 1.75-2 per cent.
It would be a rare occurrence if Australia’s rates fall below US rates, as this not happened in almost two decades.
In fact, the last time this occurred was between 1997 and 2001, when the Australian dollar was buying between 48 and 74 US cents.
As for the forces which weakened the local currency back then, they included the introduction of the GST (in 2000), and the influx of capital into the US economy due to the dotcom boom.
“Things are different now with Australia’s terms of trade,” an optimistic Mr Callow said.
“Back then, Australia wasn’t getting as much demand from China as it is now, so commodity prices will provide some cushion for the Aussie dollar.”
“The dollar will likely be stable in the first half of 2018, even with softness in the nation’s bulk commodity exports, driven by increased supply rather than a drop-off in Chinese demand.”