AUD Risk Ahead RBA Rate Decision Overnight
Updated: May 5
OVERVIEW: At 0530BST/0030EDT, the RBA releases the result of its latest monetary policy decision. Markets do not look for any major policy changes. The RBA is expected to reiterate its readiness to act if needed. Moreover, they are expected to give more detail on the outlook for the Australian economy. More detail on this will then be provided in the bank’s Statement on Monetary Policy (SoMP), which will be released on Friday.
RBA COVID-19 RESPONSE SO FAR: The RBA has acted early and aggressively since the onset of the global Covid-19 pandemic. They slashed rates by 25bps in March to all-time lows of 0.25% and implemented a new QE/yield curve control programme. They are also undertaking expanded repo market operations (to support the market for short-term funding) and have a $60bln USD to AUD swap line with the Fed.
YIELD CURVE CONTROL: Yield curve control is a scheme used by central banks who expect a large increase in the issuance of government debt (the Covid-19 pandemic means that is expected across the world). The laws of supply and demand mean that when governments issue more debt, they have to pay a higher rate of interest to appeal to a broader range of investors. The Australian government’s massive fiscal package (worth some 16% of GDP) likely requires some assistance from the RBA then. As part of its YCC/QE programme, the RBA has said that it will not allow the yield of 3-year Australian debt to rise above 0.25%, and will buy as much 3-year debt as is necessary to prevent it from doing so. In recent weeks, the RBA has been able to taper its purchases of 3-year debt, whilst keeping 3-year yields at target.
TAPERING GUIDANCE: Given that the RBA has been able to taper the amount in government bond purchases it has had to make over the past few weeks (assisted by the fact that money market turmoil and the spread of Covid-19 in Australia both now look to be under control), markets are beginning to expect some kind of QE tapering announcement. However, that risks sending off some sort of overly “hawkish” signal, which could have undesirable financial market effects. “We think that Governor Philip Lowe will maintain a cautious tone, likely signalling the Bank is still ready to provide additional support to the economy” says ING.
RECENT RHETORIC: Governor Lowe recently updates the public on the RBA’s outlook for the Australian economy, saying the bank expects GDP growth of roughly 6-7% in 2021 after a fall of 6% in 2020. He said he expects the recovery in growth to begin in Q3 this year. Moreover, he said that inflation expectations are likely to turn negative at some point this year. Given that Lowe has already updated us on the RBA’s economic outlook, Credit Agricole does not expect much by way of surprises.
AUD: Since its Covid-19 lows on the 19th of March, AUD has been on quite a rally, alongside other risk assets such as global equities. The RBA like a weaker AUD; after all, much of the Australian economy depends upon exports. AUD weakening during the initial stages of the Covid-19 crisis was initially seen as a cushion to the impact of the virus on the country’s economy. However, much of that cushion has now gone, while the impact of the virus on the economy is just as devastating as it was always going to be. Coming across as dovish to keep a lid on AUD strength will likely be a key motivating factor for the RBA.
MARKET REACTION: If the RBA does provide some tapering guidance regarding reducing its QE purchases, there is a risk the market might see this as hawkish. Under this scenario, AUD could see significant appreciation. In our opinion, there isn’t much the RBA can do to come across as even more dovish than it already is; rates are already as low as they can go and it already has QE programme that doesn’t need to be as large as it is (hence why purchases have been tapered in recent weeks). Perhaps the RBA could follow in the footsteps of the Fed and ECB and come across as very pessimistic on the outlook for the Australian economy. Given that Lowe has already detailed the RBA’s outlook recently, this seems unlikely. However, if they did dovishly revise lower their expectations for the performance of the Aussie economy, this would be AUD under pressure.
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