“Commodity prices are off their peaks but those most important for Australia remain at very high levels, and the terms of trade are approaching their peak of two years ago.” – Royal Bank of Australia, “Statement by Glenn Stevens, Governor: Monetary Policy Decision” (July 6, 2010)
From Australia’s perspective, the global economy continues to bring good tidings. Even the slowdown in China represents a moderation “to a more sustainable rate.” The RBA’s statement likely hit just the right tone to reassure investors that Australia remains on the right economic track while demonstrating the monetary authorities are well-aware of potential troubles brewing in the sovereign debt issues in Europe and potential slowdown in the U.S.
With a healthy inflation forecast, the RBA is certainly not infected with the deflationary fears that are beginning to grip at the throats of more and more investors outside Australia:
“Underlying inflation appears likely to be in the upper half of the target zone over the next year. The rate of CPI increase is likely to be a little above 3 per cent in the near term, due to the effects of increases in tobacco taxes announced earlier in the year and significant increases in prices for utilities.”
As a result, the Royal Bank of Australia (RBA) left its interest rate at 4.5%, just as forecasters expected, noting that: “The current setting of monetary policy is resulting in interest rates to borrowers around their average levels of the past decade. Pending further information about international and local conditions for demand and prices, the Board views this setting of monetary policy as appropriate.”
Given persistently stagnant labor conditions in the U.S. and a stubbornly moribund housing sector, the U.S. is now likely to leave interest rates low well into 2011. The Federal Reserve may even toy with finding ways to ease further by sprinkling even more dollars on the problem. All things considered, holding Australian dollars continues to look like a sterling alternative to holding U.S. dollars. Granted, the recent sell-off in the Australian dollar was a vivid reminder that this strategy will not be easy to follow during periods of deflationary fears such as we have now.
Be careful out there!
Full disclosure: long FXA, AUD/USD