The hopes for de-escalation of the US-China trade conflict and close start of the normalization of monetary policy by the RBA will allow the AUD/USD to find the bottom

When you live by textbook, you don't have to worry about the crisis. Australia is a unique country that has never faced a recession in the past 27 years. The regional economic crisis of the 1990s and the global downturns of the 2000s and 2010s passed it by. In 2008, Canberra used tax cuts and an increase in budget spending of AU $70 billion (1.6% of GDP; for comparison, the current size of the fiscal stimulus in the US is 1.25% of GDP) to withstand the coming disaster. The Reserve Bank did not resort to quantitative easing programs and did not bring the rates to the negative area. It acts by the book and stands on the verge of normalizing monetary policy, which can turn the fate of the Australian dollar upside down.

GDP dynamics in Australia

Source: Wall Street Journal.

Since January highs, the AUD/USD lost more than 8.5% against the background of the escalation of the US-China trade conflict, the growing cost of borrowing in the United States and mixed macroeconomic statistics in Australia. The economy of China began to slow even before the introduction of $ 34-billion import duties by the United States. In the second quarter, because of Beijing's desire to throw sand in the wheels of the bubble on the credit markets, it showed the worst GDP dynamics since early 2009. According to Morgan Stanley, if Washington resorts to tariffs for $250 billion, the economy of China will lose 0.6 p.p., including due to the distortion of supply chains.

China's impact on Australian GDP can not be overestimated, but I venture to assume that most of the negative effect has already been priced in the AUD/USD quotes. As well, however, as such a trump card  of the bears as five more increases in the federal funds rate in 2018-2019. The FOMC median forecast implies an increase to 3.375% in 2020, but the futures market sees it at 2.975% in December and 2.96% by the end of next year. Since 1989, the inversion of the interest rate curve has occurred 5 times. And every time the Fed was forced to drop the rate of monetary restriction.

Simultaneously, the US debt market is giving out contradictory signals too. Speculators have inflated net-shorts for 10-year Treasury to record highs, and yields can not break the 3% mark. Mass activation of stop orders is fraught with a sharp drop in rates, which will be a strong argument in favor of buying the AUD/USD.

Dynamics of speculative positions in 10-year US bonds

Source: Wall Street Journal.

Despite the confidence in a 3% increase in Australian GDP in 2018, the Reserve Bank has not yet talked about normalizing monetary policy, referring to sluggish wages and inflation. Trade wars can accelerate the CPI all over the world, and the drop in the unemployment rate to 5% will be a strong argument in favor of raising the cash rate. In connection with the foregoing, the medium-term prospects of the Aussie are now painted in moderately positive tones. If a large-scale trade war can be avoided, then in the fourth quarter, it can safely claim the status of the G10 favorite. You can buy the AUD/USD during a decrease to the area of 0.72-0.7265 or when the resistance at 0.7475 is broken in case of positive data from the Australian labor market in June.  

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Price chart of AUDUSD in real time mode

The Aussie will smoke the peace pipe

The content of this article reflects the author’s opinion and does not necessarily reflect the official position of LiteForex. The material published on this page is provided for informational purposes only and should not be considered as the provision of investment advice for the purposes of Directive 2004/39/EC.

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