Aussie Slid More Than RBA Expected Last Year, Its Model Shows

(Bloomberg) -- The Reserve Bank of Australia’s estimates of the exchange rate’s fair value show the currency last year fell further than the central bank expected as the economy slowed.

For part of the third quarter, the real trade-weighted index was about 3.5 percent lower than the RBA’s forecast, documents obtained by Bloomberg show. Over those three months, the Aussie was the second-worst performer in a Group of 10 currencies as Australia’s GDP growth eased to 2.8 percent.

“The real trade-weighted index was 3.5 percent below the level implied by its medium-term determinants,” the documents said, adding this was nonetheless “within the standard error bands.”

Aussie Slid More Than RBA Expected Last Year, Its Model Shows

The Aussie was the worst performer among major currencies last year as the Federal Reserve hiked interest rates and markets grew wary of the nation’s out-sized dependence on China amid worsening trade tensions. The RBA had been looking for the currency to fall even further and stimulate growth as the U.S. tightened, which didn’t unfold as commodity prices remained high.

The central bank’s TWI calculation uses a preferred ‘external’ model -- it also has one reserved for internal use. Among other variables, the external model uses a real interest-rate differential measured by the gap between the core inflation-adjusted policy rates of the Australian and G-3 economies.

Australia’s trade-weighted index’s depreciation since the beginning of 2018 largely reflected a strengthening of the yen and the renminbi, which comprise almost 40 percent of the basket of currencies, the documents said.

Yield Talk

Also among the documents is a discussion on Australian dollar predictability and information content of yield curves. It found that factors -- level, slope and curvature -- could predict movements in Australian dollar exchange rates:

  • A 1 percentage point increase in the level of Australia’s yield curve relative to that of the U.S. is associated with a 2.4 percent rise in the Aussie over the next year;
  • A 1 percentage point hike in the relative slope (the Australian curve steepening relative to the U.S.’s) predicts a 1.9 percent increase of the Aussie over the next 12 months; and
  • A 1 percentage point increase in Australia’s relative curvature factor predicts a 0.8 percent increase over the next 12 months. A rise in relative curvature can occur if it’s expected that Australia’s policy rate will increase in the medium term

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