Economics for Professionals

Questions: 1.Briefly summarise the main issues discussed in this article?2. Using Demand and Supply model of exchange rate determination briefly explain howAUD is determined in the forex market, and what factors influence its fluctuations.3. Using exchange rate data from Reserve Bank of Australia and graphs (monthly data of last three years) analyse the movement of AUD relative to that of the US dollar? Is it in linewith the world commodity price movement during this period? Are there any other factorscontributing to this behaviour of the Australian dollar?4. Do you think that the AUD will fall as low as US 65C by the end of 2016? Justify your answer. What advantages do you think Australia will have in such a scenario?5. If the market rate is US 65C then what action could the Reserve Bank of Australia take inorder to maintain the exchange rate at US 70C, and what side effects might this action haveon the Australian economy? Do you think that such actions would be effective? Answers: 1. The Reserve Bank of Australia had predicted that the Australian dollar is expected to fall. The RBA governor predicted that depreciation of the Australian dollar seems to be liable and necessary. The RBA governor also stated that the Australian dollars is regulating the major declines in key product prices. On the other hand, the currency-watchers attributed the unconventional behavior of Australian dollar to a range of factors. This range of factors comprises of purchasing of funds looking to evade bets that it will persist to decline (Tangen et al. 2013). It also includes a surge in the corporate of Australia. Another most important issue that has been identified is that Richard Grace, the principal currency strategist, considers a decline in the terms of trade of Australia that mainly measures export prices against import prices. This in turn will cut down the Australian dollar against the greenback. On the other hand, the chief currency strategist of Westpac, Robert Rennie concurs that orthodox drivers such as commodity prices as well as conflicting central bank policies between Australia and the US will eventually demolish the Australian dollar lower. The Australian dollar had also started a new trade that is mainly below 75 percent. The wide-based strength of the US dollar is a key factor that slide AUD with the index of the US dollar. It is also expected that the US dollar is likely to strengthen further that will keep the Australian dollar under pressure. Due to the recovery of the USD, AUD/USD will crush lower. As a result, the rate of inflation will diminish due to weak growth in wages as well as expectation related to low inflation (Apergis 2014) 2. The overarching macroeconomic factors that influence the decision of the traders is mainly driven by the forex market. Australia owes the reputation among currency traders to three Gs that mainly includes geology, geography and government policy (Frenkel and Johnson 2013). Figure: Forex Exchange Rate (Source: Created by Author) Australian dollar is one of the five most recurrently traded currencies in the market. In terms of GDP, Australia is listed among the major currencies in the world. Among the developed countries, Australia threads out for its heavy dependence upon commodities. The resource wealth of Australia does not have a universally positive impact on the economy of the country. Economic models are mainly designed to calculate the correct exchange rate of foreign currency. Traders incorporate a larger range of financial data into their trading decision. The market forces of demand and supply mostly determine floating rates. If demand for Australian dollar increases, the supply and demand relationship will lead to an increase in the price of Australian dollar. Australia may decide to make the use of pegged rate of exchange that is maintained artificially by the government. The pegged rate of foreign exchange is stable, as it does not alter intraday (Rossi 2013). 3. The Reserve Bank of Australia has collected data for more than a few years now on the foreign exchange market in Australia that allows one to analyze the development. Under the system of fixed rate of exchange that was established at the Bretton Woods was pegged to the pound sterling. This led to substantial changes to global monetary arrangements. The short-to-medium-run deviation in the movements of the real rate of exchange also determines the behavior of the Australian dollar. The weakness and depreciation of the terms of trade also determines behavior of the Australian dollar. In other words, dissatisfaction with the $US as an anchor currency began to arise largely as it was subjected to incessant downward pressure. Another important determinant that contributes to behavior of the Australian dollar is the crawling peg as well as the efficient appreciation. The terms of trade for a commodity exporting country like Australia is particularly imperative in influencing the current domestic as well as overseas excess demand (Atkin and Connolly 2013). An increase in the terms of trade reflects strong demand for the commodities in Australia. The marginal productivity of capital increases as a result, actual accumulation of capital must be financed out of saving. The net foreign asset also deals with Australian dollar. The level of net foreign assets fell to the point where net overseas liabilities emerge. The destabilized value of the AUD against the USD will attract several benefits to the financial system of Australia. The decline in the value of AUD in the foreign exchange market is likely to become reasonable. Exports are mainly related with the inflow of the overseas currency reserve in the treasury of Australia that is likely to enlarge, predominantly the USD reserve amounts. With the forces of demand and supply, the AUD will restore eventually due to increase in the demand in Australia that will affect deal. In line with this progress in the short term cash rates, the short-term rate of interest on loan as well as mortgages that tend to connect closely that will prove the efficacy of the monetary tool (Cole and Nightingale 2016). 4. Most of the analyst had predicted that the dollar would slump to US70? in late trade. On the other hand, some other economists had predicted that the Australian dollar could go down to US66? by the end of the year 2016. According to the chief economists of Deutsche Bank, Adam Boyton, the dollar could face a benevolent collapse at the beginning of the year when it was only a few cents of trading uniformly with the US dollar. However, he now predicts that the dollar will continue falling to US60? by the end of the year 2016. The Australian dollar is a disreputably unstable currency that is particularly a prey to Chinese financial movements. The Australian dollar has been in plummet. It is considered that the Australian dollar is likely to decline by more than U.S. 35c from its recent peak. It has been predicted by Morgan Stanley that the currency is expected to drop to US68? by the end of the year 2016. After an around 18 percent decline over the past one year due to decline in comm odity prices as well as targeted cash rate cuts, the Aussie dollar has been wedged in a trading range of US76? to US81?. The shale gas boom in America is likely to lead to lower Australian dollar. All the investment in Australian natural gas is predicted on a pretty high international price. The issues related to the natural gas prices in Australia are likely to diminish as the current US shale gas revolution has just put a lot more gas on the world market (Tietenberg and Lewis 2016). The advantages that are related to this scenario are as follows: A pay rise: A lower dollar will lead to more cash in the pocket. With more cash in the pocket, the individuals will have the probability to shop more. At the same time, the Australian-made exports will also become reasonably globally. Smaller budget deficit: With a lower Australian dollar, trades are likely to become more profitable and the individuals are likely to get more jobs. There will a less chance of a devious tax hike (Enoch and Albaugh 2016). Spare rooms can be rented: It will also lead to rush of inbound tourism. With a lower dollar, Australia will become a Mercedes at the price of Hyundai. The Barossa: With the rush of tourist in Australia will make the trip to overseas market more expensive. 5. The central bank of Australia regulates the rate of exchange at the preferred level that is mainly based on the economic objectives of the country. If the current rate of exchange is assumed to be US 65C, the Reserve bank of Australia will be able to accomplish an exchange rate of US 70C by redesigning the supply side elements of the financial system. The Central bank of Australia mainly desires to uphold the rate of exchange suitably with the help of open market operation. The distant Reserve Board adjusts the rate of exchange effectively as per the necessities defined in the public statements. The cash rate persuades associated rate of interest strongly. It will also adjust with the level of short-term rate of interest in the overall country (Stevens 2013). References Apergis, N., 2014. Can gold prices forecast the Australian dollar movements?.International Review of Economics Finance,29, pp.75-82. Atkin, T. and Connolly, E., 2013. Australian exports: global demand and the high exchange rate.RBA Bulletin, pp.1-10. Cole, D. and Nightingale, S., 2016. Sensitivity of Australian Trade to the Exchange Rate.New Banknotes: From Concept to Circulation 1 Sensitivity of Australian Trade to the Exchange Rate 13 The Household Cash Flow Channel of Monetary Policy 21 Chinese Household Income, Consumption and Savings 31 Developments in the Australian Repo Market 41, p.13. Enoch, M.A. and Albaugh, B.J., 2016. Genetic and environmental risk factors for alcohol use disorders in American Indians and Alaskan Natives.The American Journal on Addictions. Frenkel, J.A. and Johnson, H.G., 2013.The Economics of Exchange Rates (Collected Works of Harry Johnson): Selected Studies(Vol. 8). Routledge. Rossi, B., 2013. Exchange rate predictability.Journal of Economic Literature,51(4), pp.1063-1119. Stevens, G., 2013. The Australian dollar: Thirty years of floating.Speech to the Australian Business Economists' Annual Dinner, Sydney-21 November. Tangen, J.M., Grove, P.M., Spehar, B., Kemp, R.I. and White, D., 2013. The Reserve Bank of Australia security feature perception study report. Tietenberg, T.H. and Lewis, L., 2016.Environmental and natural resource economics. Routledge.