QE down under

So after a week which saw journalists under attack for suggesting all might not be tip top for the Australian economy (Wayne Swan's Treasury note here and the denials about the shrinking Western Australian miracle here), there is now talk of QE as the short cut to restoring dollar competitiveness.

Readers all around will be familiar with the money printing in the US and UK which though lowering the respective exchange rates has corroded savings and stoked inflation.  In Australia, a similar trade off putting ordinary Australians second to the finance sector looms and readers might consider it an open sign of failure by the Australian ruling class.  That or a belated stumble to catch up in the currency war.  Quotes below and stay tuned for more.

With the non-mining sectors of the Australian economy responding less promptly to lower interest rates than in history would suggest, and the A$ still at elevated levels by historical standards, in our view the chances of a smooth ‘baton change’ between growth led by resources investment and growth led by exports and other components of domestic demand are declining.(here)

Aus/NZ solidarity

Australians are a competitive lot.  They punch above their weight on the international stage, in particular in the sporting arena and Aussies like to win, and, to play in the big leagues.  In the world of currency management, or in particular, the global currency wars, the FT has reminded that Australia and New Zealand are unfortunately minnows when it comes to suppressing the exchange rates of their currencies from hot money appreciation - they hold a "peashooter" rather than a bazooka.

...New Zealand’s direct action was the most aggressive, but it seems designed to soften the kiwi’s strength rather than halt the trend in its tracks. Which is just as well given that a housing bubble is limiting officials’ room for manoeuvre. With two-year bond yields near 2.5 per cent (compared with the US at 0.23 per cent and Japan at 0.11 per cent), it is hard to see the New Zealand dollar extending last week’s 2 per cent drop against its US counterpart.
Meanwhile, Australia’s unexpected rate cut had a similar effect on an Aussie dollar hovering just above parity with the greenback. Bond yields there are in line with Kiwi ones. So are Korea’s. Of the three Seoul is historically the most aggressive in acting to stem currency strength. But it faces the biggest problem, namely that it is in effect fighting not the dollar but the yen, against which the won has hit four-year highs (here).

And this game has gone global.  As Zerohedge notes, even Israel has joined, though with a not very convincing alternative excuse other than the currency wars. 

Lunacy

Distinguished Australian Professor Ross Garnaut has reportedly called for a cap on the Aussie Dollar to slow inflows and cushion the impact from falls when the commodities cycle turns:

...Ross Garnaut, one of the authors of the float of the Australian dollar 30 years ago, warns that the Reserve Bank might have to consider intervening to push it down to minimise the recession he sees coming as the mining boom goes bust....Professor Garnaut, of the University of Melbourne, says he would rather see the RBA cushion the economy’s looming fall and bring down the overvalued dollar by cutting interest rates sharply to bring them closer to those of other Western countries.......But if conventional means fail to cut the dollar’s value and relieve the pressure on other tradeable industries, he told a seminar at the Australian National University, the Reserve should consider following its Swiss counterpart’s example and put a cap on the dollar’s value (here).

There is some academic sense to this, but to be clear, whilst the Swiss Central Bank has maintained a floor against the Euro in the last couple of years (i) it started with a huge haul of reserves to defend the floor (buying up enormous quantities of Euro securities to keep the Euro relative to the Swiss Franc high and the Franc low), (ii) it was tested by the market, (iii) domestic inflation resulted and (iv) quite probably it had a role in precipitating the scandal in which the chief of the bank, Hildebrand left (though ostensibly because of his wife's trading activities).

Australia is not a financialised economy like Switzerland and will not have the reserves to do so, nor will it be able to survive under even more inflationary conditions that would result.  Professor Garnaut's reasoning is fair but its unlikely to be implemented.

Interestingly, the Reserve Bank of New Zealand has looked at the same question and concluded it's a non-starter:

...If New Zealand decided to cap the NZ dollar, depending on where the cap is enforced, similar levels of intervention might be required as global foreign exchange turnover in NZ dollars relative to GDP is similar to that in Swiss francs. The OCR would need to drop to zero first in order to eliminate the interest arbitrage motivation for NZ dollar inflows. Any attempt to retain non-zero interest rates by “sterilising” such massive intervention would be very difficult. In effect therefore, a Swiss type operation to cap the value of the NZ dollar through large scale FX intervention would also amount to quantitative easing. As I mentioned, this would be highly inflationary in the NZ context.(here)

It could be argued that the horse has bolted already anyway - yes Australia will suffer the falls in GDP from China slowdown (and Professor Garnaut should know as his son is a top China focussed journalist), but to use the expression of Julia Gillard, these losses are "baked in" - there is little Australia can do now to change course, especially since the real economy has been hollowed out.

Australia is entering the currency war, but there are questions as to what can be achieved.

The one eyed central banker

Interesting statements from Deputy RBA governor Phillip Lowe that high AUD has been a boon for Australia.  In classical theory a high currency slows imports and curbs inflation.  But this analysis ignores hot money flows and asset bubbles....

..."Had we not experienced the sizeable appreciation (in the value of the Australian dollar) over recent years, it is highly likely that the economy would have overheated and that we would have had substantially higher inflation and substantially higher interest rates," he told an economics forum in Sydney on Tuesday...

Well possibly, but globally inflation is low and interest rates are at rock bottom and the rest of the world...

...."At the moment though, the available evidence does suggest that lower interest rates are doing their work broadly as expected." (here)

This is a very narrow analysis.  Will Dr Lowe agree with this analysis when the hot money recedes, the currency drops and low interest rates fail to stimulate as is occurring elsewhere?