The Reserve Bank of New Zealand is the latest central bank to announce an end to loose monetary policy in the light of economic recovery. Their handling of the coronavirus pandemic may be to credit for the brevity of their recovery period, but will its neighbor, Australia, now be inclined to take similar action?
The Reserve Bank of Australia may be one of the next central banks to announce tapering as pressure mounts from their neighbor. Indeed this has been shown in their communications since the end of last year and has remained hawkish to the present. Fortunately, RBA Governor Philip Lowe has the benefit of enacting special measures with preset time frames in contrast to the seemingly open-ended programs offered by other central banks. A rate hike is not on the radar until 2024, but investors have clearer guidance as to the pace of purchases. The RBA’s so-called yield curve control will focus on shorter and shorter maturities assuming the April 2024 note remains the fulcrum.
Australia’s currency has historically tracked commodity prices quite well with monthly returns posting an r-squared of 0.54. Since 2020 this relationship has lost its luster. Commodities have rallied over 20% in 2021 while the Aussie dollar has remained flat. We expect this is in part due to uncertainty about the RBA’s inflation policy. If the intent to scale back stimulus is made clear, we expect AUDUSD will once again track commodities.
Australian Dollar forward swap rates are worth looking at as well. Given the RBA’s stated mandate, “the stability of the currency, full employment, and the economic prosperity and welfare of the Australian people”, it is perhaps not surprising that the currency’s value in markets is highly influenced by what they say. Forward 1Y1Y swaps, in particular, line up quite well with the bank’s relative hawkish/dovishness over the past decade. The chart below compares the rolling one-year spread of hawkish and dovish sentiment and the one-year change in Australian forward swap rates. Both are z-scored for easier comparison.
With the Federal Reserve, we’ve said that the three speech metrics to watch are agreement, transitory, and passive language. So far, agreeability is down, but the others remain high. Until all three measures decline, we don’t expect to see the Fed begin tapering. As for the Australians, all three have declined steadily since mid-2020! There is, thus, little left for the RBA to do beyond announcing an intention to taper, which Bloomberg reports may be decided in their July meeting.