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Metal Casting Technologies : March 2006
42 icholas Tubb, General Manager of Ruesch Australia, discusses current factors affecting the outlook for the Australian Dollar (and outlines what companies can do to mitigate against currency fluctuations eroding profit margins). In 2005, imports exceeding $170 billion entered Australia, with 68% of invoices from overseas suppliers being denominated in foreign currencies. Exports, meanwhile, reached similar levels (with merchandised manufactured exports rising 8.1% last year), with many companies invoicing their overseas clients in foreign currencies (predominantly US Dollars). With the Australian Dollar appreciating around 4% against the Japanese yen over the period, but depreciating against the US Dollar by over 7% during the same period, it is clear that companies involved in international trade need an effective strategy to mitigate against exchange rate risk and protect their bottom line. With some analysts predicting an end to Australia's multi-year interest rate-led strength, it is important to take stock of current conditions and formulate a currency risk management plan for the coming months. An assessment of the risks presently facing the Aussie Dollar, as well as the sources of support, is crucial in understanding the dynamics driving the market. RISKS FACING THE AUSTRALIAN DOLLAR: With the market focused on the difference in various countries' interest rates, and thus the relative yields on those currencies, the Reserve Bank's current neutral status on monetary policy is providing little support to the Aussie Dollar. The US Federal Reserve is expected to continue its rate tightening policy, and Australia's longstanding interest rate premium is already down to 1.0%, its lowest in four years. In addition, our economy faces headwinds in the shape of cooling household spending, high oil prices, and a sluggish housing market. Australia's rising current account deficit is now almost 6% of GDP, a figure provoking some concern among analysts, and GDP growth has slowed considerably. SOURCES OF SUPPORT FOR THE AUSTRALIAN DOLLAR: Despite rising interest rates in other parts of the world (in particular the US) Australia still maintains the second highest rates in the developed world (after New Zealand). Annual retail inflation is at the top of the Reserve Bank's 2-3% target range, which could point to future interest rate rises and thus an improved differential over other currencies. In addition, the tight labour market (unemployment is at a 29 year low, providing scope for wage inflation) as well as high commodities prices could both become sources of support for the Australian currency. Finally, robust global conditions are also helping to underpin Australian economic growth. KEYS TO AUSTRALIAN DOLLAR PERFORMANCE OVER THE NEXT 6 MONTHS: As the underlying factor in the Australian dollar's popularity continues to be its high interest rates, so therefore the monetary policy actions of the Reserve Bank in comparison to its global counterparts will prove to be crucial. Demand for the Australian dollar will wane if the US, Europe and New Zealand continue their tightening policy, or if the Bank of Japan begins to raise interest rates too. High energy prices and the risk of inflation will be watched carefully, as these could curb global economic growth, and commodities prices in particular need to maintain their bullish trend in order to provide continued support to Australia's economy. Also, any further revaluation of the Chinese currency would increase the Asian giant's purchasing power and support Australian industry (through rising commodities prices). The main driver of Australian Dollar activity, however, will be Australian interest rate differentials rather than growth fundamentals, and depending on foreign Central Bank actions, we could be in for a rough ride. WHAT CAN IMPORTERS AND EXPORTERS DO TO PROTECT AGAINST EXCHANGE RATE RISK? With markets constantly moving, and driven by technical as well as economic and geopolitical factors, exchange rate fluctuations are almost impossible to predict. It is still possible, however, to make informed decisions about how and when to purchase or sell foreign currency, based on companies' individual circumstances. By working with an entity which understands your business, a significant amount of pain can be taken out of the process by sound management of the exchange rate risk. In particular, the following elements should be taken into consideration when formulating strategies to manage currency exposure: Selling in foreign funds: to compete in today's international marketplace, savvy exporters price goods and receive payment in foreign currency. By exporting manufactured goods directly abroad and accepting foreign funds (e.g. US Dollars), you facilitate payment procedures for your customers and may boost your competitive edge in the overseas markets. Consider also that when the Australian Dollar is weak, you may be missing an opportunity to earn higher profits in the buyer's FEATURE Australian's . . . get familiar with foreign exchange rates and improve your bottom line on imports and exports N www.metals.rala.com.au