Why an interest rate CUT in China is bad news for Australians

A pension fund strategist now expects the Australian dollar to fall to 59 cents by Christmas due to the economic slowdown in China.

This will be bad news for those looking to travel abroad to the United States or buy goods online, as the local currency is falling to lows not even reached during the GFC 15 years ago.

The Australian dollar has tumbled 7.8 percent over the past five weeks as China’s deflation and a property debt bubble fueled fears of a major slowdown in the economy of Australia’s largest trading partner.

The local unit was worth 68.89 cents on July 14, but by August 17 it had fallen to 63.85 cents, the lowest closing level since October 2022 as investors worried about the end of China’s four-decade boom.

David Llewellyn-Smith, the chief strategist of MB Super and Nucleus Wealthsaid the bad economic news from China, and a recent rate cut there, could now send the Australian dollar down to 59 cents by the end of 2023, to levels last seen in March 2020, at the start of the Covid pandemic.

“The Chinese currency is declining as a result – now the Australian dollar tends to follow the Chinese currency,” he told Daily Mail Australia.

‘Before the end of the year there is a real chance of being fifty.

“It’s more likely to be chronic bleeding lower.”

This would cause the Australian dollar to fall below the October 2008 level of 60.12 cents during the global financial crisis, when the Reserve Bank intervened in the foreign exchange market following the collapse of US financial services company Lehman Brothers.

The Chinese yuan is still a fixed exchange rate that is artificially supported.

That means currency speculators are instead taking short positions on the floating Australian dollar, betting on it falling and taking a windfall if they’re right.

A slowdown in China’s economy would also mean less demand for iron ore, Australia’s biggest export and the raw material used to make steel.

The Australian dollar has fallen historically in times of weaker global economic growth as it is a risk appetite driven currency.

“It’s not a good environment for the Australian dollar,” said Llewellyn-Smith.

In this scenario, the Australian dollar would fall to 59 cents, as it did in March 2020 when Covid lockdowns were imposed worldwide.

“That’s enough to drive into the high fifties by the end of the year — 60 or a little under 59.”

But Mr Llewellyn-Smith said the Australian dollar is unlikely to fall to 55.7 cents by the end of 2023 as it did in March 2020.

“To get to that low, China’s real estate crisis would really have to metastasize into a full-blown crisis, which is unlikely to happen,” he said.

“You’re unlikely to have a full-blown crisis in China, what you get is non-stop declining growth and less demand for commodities.”

Westpac already expects the Australian dollar to fall to 62 cents by the end of September, while Mr Llewellyn-Smith predicts it will reach a record low of 40 cents within the next five to ten years.

In the first week of August, it was revealed that China’s consumer price index had contracted by 0.3 percent in July, marking the first bout of monthly deflation since March 2021.

Then, on Monday, the People’s Bank of China cut its prime rate for one-year loans from 3.55 percent to 3.45 percent.

This is in stark contrast to the US Federal Reserve and the Bank of England, which raised interest rates in July and August respectively.

While major Western economies struggle against high inflation, China has the opposite problem, following a profusion of giant residential towers that have come to symbolize the dangers of rapid growth in recent decades.

Evergrande, once China’s largest apartment developer, filed for bankruptcy in the United States last week.

Under Chapter 15 of the US Bankruptcy Code, the Shenzhen-based developer can protect restructured companies outside the US from creditors.

In Australia, the futures market is betting that the Reserve Bank will cut interest rates in early 2025.

But Mr Llewellyn-Smith said the slowdown in China could lead to monetary policy easing from both the US Federal Reserve and the Reserve Bank of Australia next year.

“If the Chinese crisis gets a little out of hand, then I think it’s possible that we’ll see cuts from the Fed somewhere next year, and certainly cuts to the RBA as well,” he said.

In Australia, this would happen in the June quarter, known as the second quarter, with the RBA cash rate already at an 11-year high of 4.1 percent.

“I expect RBA cuts next year, maybe around Q2; by then we should see pretty decent declines in our commodity prices,” he said.

Mr Llewellyn-Smith said a drop in iron ore prices would mean lower incomes in Australia, and therefore less demand in the economy, which would mean lower inflation.

“The importers will just take it into their margins because we will have weak demand, it will be difficult for importers to pass on price increases.”