Weak Australian Dollar Challenges Reserve Banks Rate Cut Plans

Highlights:

• Australian Dollar at Two-Year Low: The AUD is trading at US62.20¢, reflecting a steep 9% annual decline in 2024, its worst performance in six years.
• Inflation and Rate Cuts in Focus: A weaker AUD increases import costs, complicating the Reserve Bank of Australia’s plans to cut interest rates as early as February.
• Currency Forecast: Analysts warn the AUD could drop below US60¢, potentially adding pressure to inflation and delaying monetary policy easing.

Australian Dollar Hits Two-Year Low

At the time of writing, the Australian dollar (AUD) is trading at US62.20¢, marking a two-year low after a 9% annual decline in 2024—the steepest drop in six years. The AUD, often seen as a proxy for China’s economic growth, weakened further after a sharp decline in the Chinese yuan.

Impact on Inflation and Interest Rates

The depreciation of the AUD complicates the Reserve Bank of Australia’s (RBA) plans to reduce interest rates. Warren Hogan, chief economist at Judo Bank, cautioned that a falling AUD could heighten inflation, making imported goods like oil more expensive. "The Aussie weakness would give the RBA cause for concern about what might turn up in the next inflation numbers," said Sean Callow, senior FX analyst at InTouch Capital Markets.

Market Expectations and Challenges

Financial markets currently predict a 61% chance of a rate cut at the RBA’s first 2025 meeting on February 18, with full pricing for a move by April. However, some economists believe the May 19–20 meeting is a more probable timeline for easing monetary policy.

Inflation Outlook and Currency Pressures

The RBA remains optimistic about inflation slowing to its target range of 2–3%. Analysts expect core inflation to drop to 2.9% by June 2025, down from 3.5% in September 2024. However, Mr. Callow warned that the AUD could breach the US61.70¢ level and potentially fall below US60¢, a level last seen outside the pandemic two decades ago.

The AUD's weakness underscores the balancing act the RBA faces in its efforts to manage inflation and support economic growth amid global market volatility.

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