WHICH FACTORS IMPACT
THE EXCHANGE RATE OF THE AUSTRALIAN DOLLAR?

Maybe you are interested in finding out how much a drink is going to cost on your next overseas trip. Perhaps you are looking to become, or already are, an avid forex trader. Or maybe you have some money left over from a past holiday abroad and you are trying to figure out the perfect time to make a money transfer. Whatever the reason may be, knowing what makes the Australian dollar gain and lose value can be quite important. While you might know how to read currency pairs and exchange rates, being able to understand the factors that determine the Australian dollar value can help provide a clearer picture of what’s going on  — and the best time to make your move.

Here’s your chance to get a better handle on how currency exchange rates work, why the Australian dollar might be rising or falling at any given time and how you can stay on top of movements as they happen.

How does currency exchange work?

Currency exchange is commonly known as forex trading or FX trading (forex and FX are both short for ‘foreign exchange’). In the most basic sense, currency exchange is exactly what it sounds like — exchanging one type of currency for another. One example of forex trading would be swapping US dollars for Euros. Another would be swapping Japanese Yen for Australian dollars. These four currencies are some of the most traded in the world.

Through foreign exchange, people can make large sales or purchases of currencies from around the world. It is similar to what you do when you get home from a trip overseas and have some foreign bills left over in your wallet. You go to a foreign exchange outlet or bank and swap them for your native currency based on an exchange rate. Congratulations! You have just undertaken forex trading at the most basic level.

Forex trading is conducted in what are known as currency pairs. To continue one of the examples above: US dollars (USD) for Euros (EUR) could be listed as EUR/USD = 1.52000. At that rate, you could exchange 1.52 USD for 1 EUR.

Currency rates come in two types: floating and fixed. Floating exchange rates are pretty simple to understand. The more in demand a currency is, the more valuable, or expensive, it will be. On the other hand, currency that is not as high in demand will be less valuable. Most major currency exchange rates around the world are floating.

Fixed exchange rates are determined by a centralised authority (usually a government) that sets a home currency’s value against the value of a foreign currency. It will then manipulate its own currency via trading to keep it in line with that other foreign currency.

What kind of economy does Australia have?

If you are going to get involved in forex trading in Australia, it is important to know the overarching economic factors that dominate the country’s economic landscape. This is especially true if you are going to be trading AUD, which is actually one of the most popular and most traded currencies in the world.

One thing to think about is Australia’s standing in the international trade scene. Mining plays a huge role in the Australian economy. Materials such as iron ore and coal are major exports and foundational building blocks of the Australian economy. Funnily enough, education is also a major export. This might seem counterintuitive, as thousands of international students actually come to Australia to study, but it’s true! Another major sector of Australia’s exporting power is agriculture.

It is not just the actual outgoing goods or services that make Australia’s economy so strong. Australia’s location puts it in proximity to countries with major purchasing power, including China, Japan and other thriving economies, which can help strengthen the country’s economic standing.

Interest rates in Australia comprise another big piece of the puzzle. Generally speaking, Australia’s interest rates are higher than its counterparts. This is because the Royal Bank of Australia, the country’s governing financial institution, is an ardent watchdog when it comes to controlling inflation.

These factors all add up to giving Australia a relatively strong economy when compared to other nations around the world.

What makes the Australian dollar rise and fall?

Now that we know some of the foundational elements of the Australian economy, we can look at how they actually impact the rise and fall of the Australian dollar in terms of currency exchange.

• Interest rate differentials. This is perhaps the most important factor in the changing dynamics of the Australian dollar. As mentioned above, Australian interest rates have a tendency to be higher than those of others in the world of currency exchange. That makes them desirable, and, as discussed before, more demand can mean higher value. Even when interest rates reach domestic lows, in relation to their foreign currency counterparts, they are still strong.

• Commodity prices. As discussed, mining, and the exporting associated with it, are significant contributors to the Australian economy. You can more or less depend on the Australian economy being stronger when commodities are in demand and their prices are up, and the economy being down when commodity prices are lower. This is why the Australian dollar is often considered a ‘commodity currency.

• Sentiment and speculation. The Australian dollar is one of the more unique currencies on the planet, in that it can be a great indicator of how things are going for the global economy as a whole. This correlates with the Aussie dollar being a ‘commodity currency.’ When nations are buying large amounts of commodities, such as oil, iron ore and gas, things are generally seen to be going well on a global scale. This is also when the Australian economy and dollar tend to go up. The converse is also true. When people are importing less, the Australian dollar is weaker.
• Proximity to big partners. This is perhaps the biggest factor in whether the Australian dollar rises or falls. International trading with some of the biggest economies in the world can help keep the country riding high in the good times, while also mitigating potential disastrous effects of major downturns. One great example of this was the Global Financial Crisis of the 2000s, when Australia’s trade with China was strengthened. Access to one of the biggest players in the international economy helped keep the Australian economy afloat at a time when others struggled mightily.

This proximity also has more tangential effects. Investors will sometimes buy into the Australian market in order to have a piece of the nearby Asian market. This can be a safer way to buy into a regional market that can bring great rewards, but can also be a risky proposition.

How to track currency movements

While losses are always possible, Forex currency trading can be an exciting way to get involved in a truly global market — and one that is actually the largest in the world by trading volume. Anticipating and staying informed of currency movements can be difficult though, with so many factors large and small playing a part in how the forex market moves.

Luckily for you, we here at eToro have a few great tools that can help make tracking currency movements simpler to understand:

• The first is our guide to trading currencies, which can give you a better overall view of the global forex market.
• The second is our regularly updated trading market news and analysis page, which features helpful tips as well as the latest news and how they could impact the market.
• And, last, but not least, our unique trading platform, which not only lets you explore, and trade in a variety of exciting markets, but also gives you access to social trading. With this tool, you can see what some of the most successful forex traders are doing and copy their moves with just a few taps on your favorite device.

The Aussie dollar can be your gateway into the exciting forex market. Check out the great options on eToro and get started today.

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