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Why the Aussie dollar will move higher

Stephen Koukoulas

Having been smashed from a peak of US$1.10 back in 2011 to a recent low below US$0.69, the Australian dollar looks to be finding a decent base in the low US$0.70s region.

After yesterday’s ‘on hold’ decision from the Reserve Bank of Australia plus data today confirming solid growth in retail spending and a pick up in exports, the Aussie dollar is now trading around US$0.72.

From here, it seems likely that the Aussie dollar will be moving higher over the next few months at least.

The reasons for this upbeat view are based on the usual factors that determine the value of the Aussie dollar.

The wide interest rate gap between Australia and every other major industrialised countries, together with Australia’s triple-A credit rating, will underpin capital inflows.

Also read: Aussie dollar to hit pre-GFC lows

As global investors buy our relatively high interest earning bonds, they buy our currency which by definition, forces it to move higher.

The Australian stock market is also looking cheap, especially in foreign currency terms, which means that global investors are likely to be moving into shares which in turn will work to support the dollar.

Despite many of the headline grabbing views of gloom and pessimism about the economy, as 2015 draws to a close, the economy is actually looking better than was the case a few months ago.

Economic growth is on track to lift towards three per cent, helped by solid retail spending and arguably more importantly, a lift in export earnings.

Housing construction is still very strong with building approvals data earlier this week confirming near record strength.

While it is early days yet, the depreciation of the Aussie dollar over the past couple of years has helped deliver annual growth in the value of exports of 5.3 per cent. This is the strongest result in 18 months.

This is despite weak commodity prices and concerns of a sharp fall in demand from China as its economy slows.

Clearly, the Aussie dollar is supremely competitive at the moment in areas outside commodities with evidence showing that tourism and education exports (foreign students studying in Australia and paying full fees) are growing rapidly.

If, as appears likely, the global economy picks up in 2016, aided by super easy monetary policy and what looks to be a trend from many governments to repair and rebuild infrastructure, the commodity price cycle may be nearing a bottom.

Also read: Why Australia's low inflation is a game changer

While commodity prices are fickle, the current level of commodity prices is broadly equal to the low point registered five months ago.

In other words, commodity prices have been flat-lining, at these lows, for some time.

Any upside as the Eurozone picks up and China’s policy stimulus kicks in, would support commodity prices and with that the Aussie dollar.

Some of the Aussie dollar’s probably strength will be seen in the value not just the US dollar, but also again the Euro, British pound, Canadian dollar and New Zealand dollar.

With the US Federal Reserve poised to hike interest rates, there is some prospect that the US dollar moves higher which would cap gains for the Aussie against it.

The brightest outlook for the Aussie dollar could well be against those other currencies, rather than a simple view that the Aussie dollar will head back to US$0.75.

Stephen Koukoulas is a Yahoo7 Finance expert with more than 25 years experience as an economist in government, as Global Head of economic and market research, as Chief Economist for two major banks and as economic advisor to the Prime Minister of Australia.