Australian Dollar: What Impact Will the RBA Rate Decision Have?

[DailyFx]

The combination of a strong US dollar and weak commodities have helped drive the Australian dollar, New Zealand dollar, and Canadian dollars start the week on a soft note. As we mentioned in our discussion of the US dollar, the downgrade of Hurricane Gustav to a Category 2 status sent crude oil futures down more than $4/bbl.



While the threat of the storm did force significant cutbacks in production at oil and natural gas facilities, there has been little reported damage to drilling rigs and refineries in the oil-rich Gulf of Mexico, so production should be able to return to normal after the storm. However, the Reserve Bank of Australia’s upcoming rate decision should be a major driver for the Australian dollar (and thus, the New Zealand dollar since the two currencies have a positive correlation). A Bloomberg News poll shows that 22 of 23 economists surveyed expect the RBA to cut rates by 25bps to 7.00 percent. This would mark the first reduction in the central bank’s Cash Target since December 2001, as they have long sought to quell rising inflation stemming from robust domestic demand. However, with the Australian economy showing broad signs of weakening, the RBA appears to be ready to put down their guard. A rate cut of 25bps has the potential to weigh quite a bit on the already-weak Australian dollar, but if the central bank surprisingly leaves rates unchanged at 7.25 percent, the currency could easily spike higher. Indeed, Credit Suisse overnight index swaps are pricing in over 100bps worth of rate cuts within the next 12 months, which has helped drive AUD/USD down almost 1,200 points from 25+ year highs since mid-July. If we see any sort of shift in these expectations, the currency is apt to change course. Nevertheless, my fundamental bias for the Australian dollar overnight remains bearish. The 0.8500 level presents solid support for AUD/USD, but a rate cut by the RBA could trigger a break lower.

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