But there are also two structural reasons for a lower Australian dollar. The first structural one is lower commodity prices. We know about iron-ore and coal, but the biggest story going forward is natural gas.
All of that investment in Australian natural gas in Queensland and Western Australia was predicated on a pretty high global price for natural gas, which Australia is now going to export in huge quantities over the next decade.
The problem for Australia is that natural gas prices are going down globally because the recent US shale gas revolution has just put a lot more gas on the world market. Demand for natural gas is high around the world. But there is now much more supply than when the Australian natural gas investment boom started. Just like lower iron ore prices, lower gas prices also reduce the value of the Australian dollar.
And the last reason is China. We know that in an important respect, the global market has viewed the Australian dollar as a proxy for Chinese demand for raw materials. If China is slowing down in general, that is bad for the flobal economy. But if the Chinese government isn’t going to respond with another massive infrastructure spend, that is particuarly bad for Australia, and the Australian dollar.
China was hit harder than other countries by the GFC because its growth was so dependent on exports. The Chinese government responded with a massive program of lending and fiscal stimulus, focused on big infrastructure projects—new cities, new airports, new high speed rail networks. This all required steel, made from Australian iron ore and coking coal. Australia escaped the GFC and the dollar boomed – both because of what the Chinese government did.
Now China is slowing again, but it is just not clear that the government has the appetite for another massive infrastructure stimulus. That will slow Australian commodity exports and economic growth. It will also put downward pressure on the dollar.
So all four factors point to a lower Australian dollar. In fact a lot of people in the market have been thinking that there’s a new rate for the dollar. It’s not 105 cents to the greenback as it has been for the past few years. It will probably be closer to 85 cents.
Is that good or bad for Australia? I think the answer depends on whether the dollars decline is orderly and gradual or chaotic and rapid.
Say it’s orderly, and the Australian dollar gradually reaches an equilibrium of 85 cents – everyone’s happy because the problems associated with a high dollar will have been reduced. Australian exporters like Holden win, although people taking holidays or buying BMWs would not be.
The bad scenario is if the dollar plummets global financial markets might lose so much confidence in the dollar that they will stop lending Australia money, or at least charge much higher interest rates to do so. A disorderly, chaotic, uncertain decline of the dollar where you don’t know where the new floor would be, that’s a very bad news story.
But we don’t see evidence of that at the moment. Yes, the decline’s been appreciable in the last six weeks or so. But there is no reason to think we are facing anything like the dire conditions associated with the Asian financial crisis 15 years ago.
Professor Geoffrey Garrett is the Dean of the Australian School of Business at the University of New South Wales.
This article was originally published at The Conversation. Read the original article.
