Monday, May 4, 2020

Is the RBA likely to keep monetary policy unchanged in tomorrow’s monetary policy decision?

Tags
  • China
  • Dollar
  • AUD
  • RBA

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Analysts’ Pick: Is the RBA likely to keep monetary policy unchanged in tomorrow’s monetary policy decision?

  • RBA looks likely to keep its monetary policy on hold as fundamentals are likely to help support some positive outlook for the Australian economy
  • But risks for AUD/USD are likely skewed to the downside with US-China tensions starting to resurface

Our outlook for the Australian dollar is tilted to the downside as tension between the US and China continues to escalate amid the Covid-19 pandemic.

But the Reserve Bank of Australia's (RBA) decision tomorrow may be able to provide some slight upside to AUD/USD as we think that the RBA is unlikely to make changes to its monetary policy during its decision tomorrow. Futures tracking the decision implies that the market is pricing in a 58.4% probability for a rate cut by the central bank, which should give some upside potential for the Australian dollar should the RBA keep its monetary policy on hold tomorrow.

Futures tracking the RBA’s monetary policy decision signal that there may be some upside for the Aussie if the central bank keeps monetary policy unchanged

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Fundamentally, the Covid-19 pandemic remains the biggest catalyst at the moment, but there is a large amount of uncertainty surrounding its economic impact. In addition, as shorter-term government yields have converged towards the central bank's target, the RBA is unlikely to expand its asset purchase program and instead keep policy on hold while waiting for more economic data before deciding on further action. This is evident from the scaled back bond purchases from the RBA over the past few weeks.

The RBA tapered off its bond purchases as market conditions eased

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Furthermore, with China, New Zealand and Australia all starting to ease lockdown restrictions ahead of the rest of the world, the RBA is unlikely to have a strong reason to ease monetary policy just yet. As a result, investors will likely be more focused on the central bank's economic outlook instead. But we think that RBA Governor Philip Lowe will manage market expectations of the bank's economic outlook, especially due to the rising tensions between the US and China has come back into play.

Over the past few weeks, the US has implied that they were investigating into the origin of the novel coronavirus in China. This signalled that tension between the two countries were starting to re-escalate despite having signed a phase one trade agreement earlier this year. After US President Donald Trump said that the trade deal with China was now secondary in importance to the novel coronavirus pandemic issue, markets reacted negatively pushing major indices in the US to fall more than 2% on Friday. With Australia's economy being reliant on China (China contributes to 42.05% of Australia's total exports), a revival of the trade war will skew the economic outlook of Australia downwards. Hence, the central bank will likely that this into account and note it as one of the downside risks for the Australian economy.

The Australian dollar has gained as much as 14.17% since the peak of the Covid-19 pandemic as risk aversion started to ease with countries reopening economies

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This will also affect the dollar since the increased risk aversion in the market will lift demand for the greenback due to its safe haven properties. Weak economic data from the US as a result of the Covid-19 induced lockdowns being fully reflected in April's dataset should also continue to put upward pressure on the dollar as the US economy contracts at record levels. As a result, we see some slight upside for the AUD/USD tomorrow on the announcement of the RBA’s monetary policy decision, rising towards 0.6443's level before falling back down past 0.6355's level to 0.6299 as volatility after the decision starts to ease as the long-term outlook for Australia remains dampened by the prospects of renewed tension between the US and China.

Technical Analysis:         

AUD/USD

Bulls should see some opportunity to push the Australian dollar higher ahead of tomorrow’s decision as Stochastics signal that AUD/USD is currently oversold. The shift to the currency pair being oversold was reflective of the news late last week which implied that US-China relations were going to escalate. As a result, the currency pair was pulled down by the bears back into the 61.8% and 78.6% Fibonacci retracement range. With tomorrow’s RBA monetary policy decision coming up, bears may not be able to hold on, giving the chance for the bulls to push the Aussie back above the 78.6% Fibonacci retracement level. But as the longer-term outlook for the Australian economy may be tilted to the downside as a result of increased risk from a US-China trade war, we may see AUD/UD falling back towards the 0.6355 support level. If broken, expect the bears to drag the currency down lower towards 0.6299’s level.

Support: 0.6355 / 0.6299 / 0.6261

Resistance: 0.6443 / 0.6566 / 0.6647

AUD/USD Chart (H4)

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