Currency Exchange Rate Analysis: AUD versus USD - Assignment Example

CURRENCY EXCHANGE RATE ANALYSIS: AUD VERSUS USD By Student’s Name Code + Course Name Professor’s Name University Cite, State Date Question 1: Factors Affecting the Positive Growth of AUD The article identifies a numerous levels of factors that has gone ahead to promote the value of the Australian dollar especially in comparison to the United States of America dollar. These factors are discussed as below; First, the article mentions the weakening of the US dollar against the Australian dollar (Lynch, 2011). This means that the Australian dollar is able to buy more in comparison to the American dollar in the international money markets. For this case, the imports are cheaper for Australians as opposed to the Americans given that the weakened US dollar would allow the Australians purchase more of the US dollar so that they can use it to purchase substantial levels of foreign goods (Henry & Olekalns, 2002). Second, the higher growth in the Australian dollar is attributed to the current stronger price levels for commodities especially raw construction materials (Lynch, 2011). The higher prices assigned to the Australian raw materials is a disadvantage to American companies that will no use more money to import lots of components and raw materials in order to manufacture goods. This basically means that the American companies would have to use more dollars to purchase the highly priced raw materials from Australia and in the end strengthening the Australian dollar (Lynch, 2011). Third, the article mentions the growth to relatively higher interest rates in Australia in comparison to the rest of the developed world (Lynch, 2011). This means that the higher interest rates set by the Australian central bank translates to more people seeking the currency so that they could deposit it in the banks and earns the higher interest rates. A higher demand is created for the Australian currency hence more US dollars are used to purchase the highly valued Australian dollar and as a result improving its growth in the end (Henry & Olekalns, 2002). Fourth, investors’ return to taking up riskier assets, which have long been abandoned by the Australians due to such crises as Japan nuclear crisis that was triggered by earthquakes and tsunami (Lynch, 2011). This makes the investments within the Australian markets attract more demand than before hence translating to a higher growth of its currency due to the demand. Fourth, the article puts forward that the economic fundamentals of Australia have improved tremendously (Lynch, 2011). For instance, the economy has led a zero public debt while the budget deficit is under immense control. It is important to note that one of the potential challenges of a higher exchange rate or rather a stronger Australian dollar in comparison to the US dollar might mean that there is higher trade deficits. This is because of the fact that relatively stronger currencies translate to cheaper imports hence a country like Australia would tend to engage in more imports than exports, which in turn causes a trade deficit that can lead to contractionary effect of the overall economy (Henry & Olekalns, 2002). Trade deficits might lower demand for Australian commodities and as a result lowering the growth domestic product of its economy (Henry & Olekalns, 2002). However, the Australian dollar remains relatively stronger given that the relevant agencies have ensured that trade deficits are maintained at optimal levels in order to ensure that Australian companies are able to compete fairly on an international platform while also ensuring that profits are highly placed(Henry & Olekalns, 2002). Fifth, a controlled level inflation is also mentioned as being one of the factors that has ensured the growth of the Australian dollar (Lynch, 2011). This is attributed to the strengthened currency that translates to cheaper imports hence leading to the Australians spending less on foreign commodities. This, in turn, puts pressure on Australian based companies to maintain their prices at a low level in order to remain at a competitive level. All of these activities translate to lower level of prices and thus, more money staying in the pockets of most Australians, which also fosters a higher standard of living (Henry & Olekalns, 2002). Question 2 Factors that have caused US Dollars to Depreciate The depreciation of the US dollar is associated with a surplus of these dollars in the foreign exchange markets that is mainly caused by excess of imports in comparison to the exports for the US as determined by trade balance or current account balances. The aforementioned imbalances are associated with two other factors that include; the demand for oil imports as well as a faster economic recovery within the United States of America than foreign economies (Ranaldo &Söderlind, 2010). This has transpired to an increase in US imports in comparison to exports. Consequently, the recent shift in monetary policies by such developed countries like China, Japan and Australia in regards to holding large US dollar reserves has led to depreciation (Ranaldo &Söderlind, 2010). Unlike in the past when these countries used to reinvest US dollars back into the US economy, nowadays, the trend has shifted to the diversification of the reserves in order to protect them from the US dollar (Ranaldo &Söderlind, 2010). For instance, the current decision to reinvest in gold reserves as opposed to US debt has led to a decrease in the demand for US dollars hence its depreciation altogether. The current budget deficit of the US economy in the Obama administration has also led to weakening of the US dollar against some of the world currencies like the AUD. This has happened whenever the US government has spend more in comparison to earnings from taxes or other sources of income hence being forced to borrow from citizens and foreign entities(Ranaldo &Söderlind, 2010). As a country’s level of debt increases, the immediate value of its currency decreases given that investors become wary of the ability of the economy to repay its debt. On the contrary, whenever the US government has taken to borrow from foreign entities, it leads to an increase in the demand for foreign currency for exchanging with bonds hence lowering the relative value of the US dollar (Ranaldo &Söderlind, 2010). Factors that have caused AUD to Appreciate First, despite the fact that there have been global and domestic economic downturns, the Australian economy has defied all odds to grow relatively faster in comparison to the rest of global economies (Garton, Gaudry & Wilcox, N.d). Its economy has also not suffered on a similar extent as other developed economies through both the global financial crisis and slow recovery period process. This, in turn, has resulted to more investors perceiving the economy as best investment hub for both domestic and foreign based investors, which has translated to increased demand for the AUD hence its appreciation in values (Garton, Gaudry & Wilcox, N.d). Second, the appreciating value of the Australian dollar can be attributed to the current high demand for Australia’s mineral as well as energy resources (Money Management, 2015). While it is important to note that these resources are traded in United States dollar, the immediate by-product of the resources demands helps in the ongoing demand for the AUD as well as its immediate appreciation capacity (Money Management, 2015). Third, the appreciated AUD is also linked to the lack of demand for the US dollars on an international platform have seen the USD depreciate not only against the Australian dollar but also in comparison to other major world currencies (Money Management, 2015). For instance, with the US cash rates hitting an almost zero mark as well as the US Federal Reserve commanding a rather higher monetary liquidity within the economy in relation to its quantitative easing (QE) and other such initiatives has transpired to a decline of the US dollar regardless of the current financial instabilities being witnessed across Europe (Money Management, 2015). Question 3 Unfortunately, the Australian dollar did not hit the USD1.10 mark before the end 2011 because the European Union took the fundamental task of bailing out such countries like Greece of the budget deficits economy hence preventing the negative effects from flowing into the Australian economy as well as other major financial markets across the globe. Subsequently, the Obama administration put up significant policies needed for strengthening the US dollar against the major world currencies like AUD. This improved its value hence preventing the AUD from gaining immense appreciation over the US dollar. This can also be attributed to the recent strengthened ties between the US and such major countries like China and Japan hence lots of the reserves being reinvested into the US economy as US debt rather than being diversified into other operations. This, in turn, has led to the immediate strengthening of the US dollar since the reserves help to keep the demand and supply of the currency in check against most of the world currencies. References List Garton, P; Gaudry, D & Wilcox, R. N.d. Understanding the appreciation of the Australian dollar and its policy implications. Accessed January 29, 2015 from http://www.treasury.gov.au/~/media/Treasury/Publications%20and%20Media/Publications/2012/Economic%20Roundup%20Issue%202/Downloads/03_Appreciation_of_the_Aust_dollar.ashx Henry, O.T and Olekalns, N, 2002, ‘Does the Australian dollar real exchange rate display mean reversion’, Journal of International Money and Finance, vol. 21, no. 5, pp 651-666 Lynch, J. 2011. Record run for Aussie not over: Pundits, The age, Business Day.p.3 Money Management. 2015. “The rise and rise of the Australian dollar”. Accessed on January 29, 2015 from http://www.moneymanagement.com.au/opinion/financial-services/2012/the-rise-and-rise-of-the-australian-dollar Ranaldo, A and Söderlind, P, 2010, ‘Safe haven currencies’, Review of Finance, vol. 14,no. 3, pp 385-407. Read More