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Interpreting the RBA Cash Rate Decision

June 2, 2020 By Mircea Vasiu

The Reserve Bank of Australia (RBA) announced earlier today that it is keeping the cash rate level at 0.25%. While the cash rate decision is usually priced into the market, the announcement comes with a statement from the RBA Governor that created volatility in the AUD related pairs. 

Today’s statement by Governor’s Lowe on the monetary policy in Australia emphasized the challenges posed by the coronavirus globally, and how the RBA responded to the internal challenges.

RBA to Scale-Up Its Bond Purchases

The RBA was one of the last major central banks to join in quantitative easing, following in the footsteps of the ECB, Fed, and Bank of Japan. After lowering the cash rate close to zero, it was forced to embark on further unconventional monetary policy, embracing quantitative easing to start with.

To date, the bank has purchased around AUD 50 billion, but it is setting up to scale-up the bond purchases program moving forward. The ultimate aim is to ensure the bond markets remain functional and to best fight the biggest economic contraction in Australia since the 1930s.

More than 500,000 people lost their jobs in Australia on the back of the coronavirus pandemic, and the RBA is there to provide a high level of liquidity to the Australian financial system. Household spending, as a consequence, declined dramatically, further fueling the economic contraction.

Despite encouraging developments such as the slowdown in the rate of coronavirus infections and stabilization in hours worked in early May, the RBA’s outlook remains uncertain. Households and business confidence, once again, is key.

For this reason, the RBA maintained the accommodative approach and will not increase the official cash rate until signs of improvement on both economic and inflationary fronts.

The Australian Dollar took the news relatively well. It rallied for most of the pandemic against the USD, CHF, and the JPY – and continued to move higher despite the dovish RBA statement.

Once again, the market’s reaction reflects the complexity of interpreting an exchange rate. It is not about a currency only, but about the factors that influence both currencies part of the exchange rate. Another thing to consider when trading the currency market is that the market participants are forward-looking, meaning that they trade according to future expectations.

Before the coronavirus pandemic, Australia enjoyed one of the longest economic expansions in modern history. The RBA, as a central bank, never had to act to fight a recession, until now. Traders and investors are about to find out how efficient the RBAs’ tools are in propping up Australian economy from its biggest downturn in almost a century.