Where is the Australian dollar heading in 2016?

Given the fluctuation of the Aussie dollar over recent weeks, we interview Dr Shane Oliver, AMP Capital’s Chief Economist and Head of Investment Strategy, about where it’s heading and what the possible effects are for our economy, investments and overseas travel in 2016.

Q: Given the Aussie dollar has been around 72c for some time, but is now losing value against the US dollar, how much further down do you think it will go by the end of 2016?

A: The downtrend in the value of the Australian dollar, that has been in place since it peaked at $US1.10 in 2011, is likely to continue. The interest rate differential in favour of Australia will continue to narrow, making it less and less attractive for foreign investors to park their cash here. Commodity prices will remain weak and the Aussie dollar is likely to undertake its usual undershoot of fair value. Expect a fall to around $US0.60 by the end of 2016. Of course, as we have seen over the last four years, it won’t go down in a straight line.

Q: A low Aussie dollar is usually a bonus for our exporters because it makes our products cheaper for overseas buyers. What can we expect to see over the coming year?

A: The fall in the value of the Australian dollar is helping rebalance the economy as the mining boom continues to unwind. It is doing this by making industries that have to compete internationally – like tourism, manufacturing, higher education, services and, of course, farming and mining -– a lot more competitive. As such, it is providing a direct boost to many of these sectors and helping to partly offset the impact of falling commodity prices, which are mostly in US dollars on mining companies. In other words, it’s acting like a bit of a shock absorber for the Australian economy.

Q: As China buys around a third of our exports, how will a softening Chinese market affect our economy?

A: Slowing growth in China, at a time when the supply of commodities has surged, has already had a big impact on our economy. This has led to much lower commodity prices which result in a loss of national income. For example, the iron ore price has fallen from around $US180 a tonne at the high point in 2011 to around $US40 a tonne. This directly affects the mining sector, but has an indirect impact on all Australians. This is because it means lower Federal Government tax revenue, which limits the scope for public sector spending. This is likely to continue for some time yet.

Q: How do you think Australians who are travelling overseas this year will be affected by the lower Aussie dollar? Will we need to consider different holiday destinations which are closer to home?

A: The lower Aussie dollar makes overseas holidays more expensive. For example, a trip to the US will now cost an Australian roughly 30% more today than it did back in 2011, just due to the fact that the $A now buys less US dollars. The impact is generally less in other countries, as the $A has not fallen as much against other currencies. For example, the $A is down by only just over 10% against the Euro over the same period. So what the fall in the $A does is encourage Australian travellers to consider countries against which the $A has fallen by less or more significantly to consider holidaying in Australia. This simply means a falling $A makes Australia a relatively cheaper holiday destination compared to many international destinations.

Q: Will the value of shares both here and overseas be affected by the Aussie dollar going down?

A: As the $A goes down, it directly boosts the value of global shares because they are priced in foreign currency. For example, a 10% fall in the value of the $A against global currencies directly boosts the value of global shares by 10% in Australian dollar terms. When the $A is falling, it also tends to keep foreign investors away from our sharemarket. This is because they fear further falls, resulting in a loss in the value of their investments. So, in the short term, a falling $A can be a dampener on the Australian sharemarket. Longer term though (over a few years) the lower $A will help boost the value of Australian shares. This is because it makes Australian companies that export internationally, or compete with imports, more competitive so this will help boost their profits.

Do you have a question about investment markets or economic trends that you'd like to ask Dr Shane Oliver? Send your questions to AMP_Content_Team@amp.com.au

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