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Deutsche.01.14.14 .pdf


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Deutsche Bank
Research
Australia

Foreign Exchange
FX Spot

Date
14 January 2014

FX Daily
AUD: Interest rate differentials, or just
interest rates?
(And did RBA ‘jaw-boning’ really have that much of an impact?)
Interest rate differentials are widely seen as an important driver of currency
pairs. By way of example, AUD/USD moved in line with short-end interest rate
differentials from mid-2011 to around mid-2012 (see Figure 1). Given the
relative stability of front-end US rates over the past few years, those moves in
AUD/USD therefore largely reflected a re-pricing of market expectations for the
RBA. But since the second half of 2012, the gap between short-term Australian
and US rates has been fairly stable. AUD/USD has, of course, been much less
stable. But that’s not to say interest rates aren’t relevant for AUD/USD. Rather
it’s more a question of what interest rate(s) we should be looking at. In
Figure 2 we have plotted AUD/USD against the US 10-year Treasury yield. As
the chart shows, the levels relationship between the two has been quite robust
over the past 18 months or so. The correlation also appears particularly tight
over the final months of 2013.
There are a few conclusions we can draw from the discussion above and the
charts below. The most obvious one is that expectations around the US
economy and Fed policy have been a much more important driver of AUD/USD
than developments in the local (i.e. Australian) economy over the past year or
so. The very tight relationship between AUD/USD and the US 10-year Treasury
over the final months of 2013 also suggests that RBA ‘jaw-boning’ of the AUD
probably had little impact. As for why AUD/USD has tended to move with the
US long end and not the short-end differential, we think the answer is fairly
simple: the US long-end is where the ‘action’ has been. When market ‘action’
shifts to the RBA’s rate settings (or perhaps the prospect of Fed rate hikes), we
would expect short-term interest rate differentials to again become a driver of
AUD/USD.
Figure 1: The short-term interest rate differential was
dominant from mid-2011 to mid-2012

Figure 2: US 10-year Treasury yields have been
correlated with AUD/USD over the past year or so.
AUD/USD and 10-year US Treasury yield

AUD/USD v AU-US interest rate differential
5.75

% pts

4.75

1.20

0.40

1.15

0.90

1.10
3.75

1.20
%

1.15
1.10

1.40

1.05

1.05
1.90

0.95

1.75

0.90
0.75

2.40

0.95

2.90

0.90

AU-US interest rate differential (IR4 and ED4) (LHS)
0.85

AUD/USD (RHS)
-0.25
Jan 11

1.00

1.00

2.75

US 10Y Treasury yield (inverted scale, LHS)
3.40

0.85

AUD/USD (RHS)

0.80
Jul 11

Jan 12

Jul 12

Source: Bloomberg Finance LP, Deutsche Bank

Jan 13

Jul 13

Jan 14

0.80
Jan 11

Jul 11

Jan 12

Jul 12

Jan 13

Jul 13

Jan 14

Source: Bloomberg Finance LP, Deutsche Bank

________________________________________________________________________________________________________________
Deutsche Bank AG/Sydney


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