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Australian Dollar Forecasts Downgraded at Credit Suisse on Back of Slowing House Prices

Projections for AUD have been lowered as the Australian economy cools through the coming year.

Rising iron ore prices rises are unlikely to have the the same upward impact on the Australian Dollar as was the case earlier in the decade.

Indeed, it has been left to rising house prices to keep the Australian Dollar elevated as rising house prices tend to feed through into overall consumer confidence which in turn spurs the non-mining segment of the economy.

However, analyst Honglin Jiang at Credit Suisse in London argues that a slowing in the residential property market leaves the Australian Dollar exposed to downside in 2017.

“In Australia, the balance of domestic risks since then has tilted decidedly to the downside,” says Jiang. “Given prospects of further deterioration in the data, relatively sanguine pricing of RBA expectations, and a constrained fiscal policy, we downgrade our AUD forecasts vs. both the USD and NZD accordingly.”

But Iron Ore Exports will Support the Aussie in 2017 Won’t they?

Predicting the Australian Dollar’s performance in 2017 now looks to be largely dependent on how much of an impact the recovery in iron ore prices and mining investment will have on the economy, and thus the currency.

Westpac see the Australian Dollar looking cheap relative to the direction taken in iron ore prices.

Iron ore is Australia’s largest export and therefore rising ore prices are seen to be positive for AUD.

As iron ore prices on the back of increasing demand from China, Westpac note the fair value of the Aussie Dollar rises alongside.

Westpac fair value for Australian Dollar

But, analysts at Standard Chartered argue that even though iron ore prices may be rising again, volumes of iron ore exports have peaked.

Exports to China may have peaked

"We believe mining investment is close to bottoming out at current levels," says Chidu Narayanan, Economist Asia at Standard Chartered in Singapore.

Mining exports have suffered due to price declines, and while commodity export volumes are high, values have dropped since 2014.

Standard Chartered have an interesting message - a recovery in commodity prices may not have the positive impact on the Australian economy, and therefore the AUD, as it did in the past.

"We expect commodity exports to remain under pressure even as prices continue to rise, as volumes have plateaued," says Narayanan.

Therefore, support for the economy and its currency may not be forthcoming from commodity exports meaning that slack in the economy remains.

The base-case at Credit Suisse is that the non-mining sector is unlikely to take up the slack left by the retreat of mining capital expenditure in 2017.

As can be seen, the fall in mining expenditure has lead to a gaping shortfall:  

Capital expenditure Australia

“Since 2012, the growth shock of declining mining investment has been partially offset by growth in residential housing investment, spurred by rising house prices, falling interest rates, household formation and constrained supply,” says Jiang.

Recently, the housing market has moved into more of a “two-speed” mode, with established houses in desirable locations continuing to do well, but an overhang of supply in new build apartments (particularly in Sydney and Melbourne) suffering falls in prices and settlement failures.

That negative dynamic in new-builds looks like it is now feeding through to building approvals, with worrisome implications for future housing construction demand.

“With mining investment unlikely to repeat its 2010–2012 growth spurt, what will take its place? In a slowing economy, it is unlikely to be other private capex, despite falling interest rates,” says Jiang.

Forecasts

As a result of their analysis Credit Suisse revise their AUD to USD exchange rate forecast lower to 0.72 three months and 0.70 in twelve.

They also revise their AUD to NZD forecast lower to 1.011 in both 3m and 12m, keeping their NZDUSD forecasts unchanged.

The EUR to AUD exchange rate is forecast at 1.431 in three months and 1.4290 in twelve months.

No specific GBP to AUD forecasts were issued.

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