Types of Exchange Rates

Exchange rate is the relative price of country’s currency expressed in terms of another currency. It is amount of country’s currency that has to be paid to have one unit of foreign currency. The nominal exchange rate shows the exchange between domestic currency and foreign currency. Real exchange rate on the other hand represents the extent of goods and services between countries. The exchange rate has direct impact on trade volume and hence on business that are exposed to external sector. When exchange rate raises, then domestic currency becomes cheaper and this boosts exports. As the value of domestic currency fall in the international market, this is known as depreciation of currency. Opposite of this situation is currency appreciation. There is a decline in exchange rate that makes import cheaper and hurts the export sector.

A strong trade relation exits between Australia and USA. Recently a highly volatile trend is observed in the Australian dollar against US dollar. Forecasting shows a continuation of this trend. The paper conducts research on the exchange rate trends of last three years and analyzes its likely impact on social and economic environment of Australia.

Two types of exchange rate used by the nation for exchange are spot exchange rate and forward exchange rate. Forward contracts are used in times when exchange rates are prone to volatility. The forward exchange rate helps to counter sudden shocks in the exchange rate and resulting loss to the business. The spot exchange rate between Australian dollars against US dollar signifies the worth of Australian dollar with respect to US dollar. The spot exchange rate determined the terms of exchange today (Hassan and Mano 2014). The forward exchange rate on the other hand indicates exchange rate contracts though determined today but is effective on a specified future date.

 

Figure 1: Trend in AUD USD exchange rate

(Source: tradingeconomics.com 2017)

The exchange rate of Australian dollar with respect to US dollar had decreased to 0.7548 in December 7. In the last trading session, the exchange rate stood at 0.7563. In July 2011, the Australian dollar attained a recorded high level of 1.10. The exchange rate reached to its lowest level of 0.48 in April 2011 (Ferraro, Rogoff and Rossi 2015).

AUD/USD is considered as the major pairing in the Australian foreign exchange market. The Australian dollar is considered as a floating currency and hence vulnerable to economic performance of its trading partners. The period from Jan. 4 to Jan. 6, 2016 AUD/USD constituted a downward trend from .7283 to .7083 following a significant market correction. The fluctuation indicates an intermediate low range of two months for AUD/USD ( 

The Trend in AUD / USD Exchange Rate

The fluctuating Australian dollar has strong implication for Australian financial and economic system. People engaged in different fields such as export, import, investors in national and international market are affected by exchange rate fluctuation and respond accordingly. This is reflected in the financial reports published by the relevant company. The currency of nation fluctuates in line with commodity prices and affects sectors depending on these commodities.

The objective of the research is to analyze the trend in Australian dollar value against the US dollar and its likely impact on people and important sectors of Australia economy.

Exporters: The fluctuation in the exchange rate directly affects the people involved in trend. When currency depreciates then export becomes cheaper. The rest of the world increases demand for imported goods from this country. This raises the export earnings of people. Therefore, a depreciation of currency is beneficial for exporters. The exchange rate trend shows a though fluctuating but overall declining trend. This likely to hurt exporters groups in Australia. The major exports of Australia to US are Optics and medical instruments, Uranium, titanium, wine and beer, precious stones and metals and other (asiamattersforamerica.org 2017). People engaged in theses sector will be affected from a volatile exchange rate.

Importers: Response of the import price is opposite to that of the prices of exported goods. In times of currency depreciation price of imported goods increases while with currency appreciation import becomes cheaper. Australia imports Electrical machinery, optic and medical equipment, aircraft and agricultural products (Chaney 2016). A decline in the exchange rate will benefit people dependent on these imports.

Investors: Volatile exchange rate has implication for foreign investment. Depreciation of exchange rate implies a relatively lower real wage and reduces other production cost. This provides a locational advantage to the foreign investors and help to increase their return. United States is in the top position in terms of foreign direct investment in Australia (Gabaix and Maggiori 2015). When currency depreciates US, investors will be benefitted, and this increases FDI flow from US. The appreciation of exchange rate similarly works in favor of Australian investors and hence funds are outflowed from Australia to US.

Government: Exchange rate fluctuation affects government policy. In the phase of volatile exchange rate, government intervene to stabilize the exchange rate. Australia usually devices the policy of floating exchange rate. However, Reserve Bank of Australia control exchange rate using the policy of devaluation or evaluation (Reboredo, Rivera-Castro and Zebende 2014). Government manipulate the exchange rate using tools of interest rate, external borrowing, altering its foreign exchange reserves and other money market operation. 

Impact on Exporters

The movement of Australian dollar affect different business groups in the Australian economy. Following are the examples of such companies.

Evolution miner is a gold miner in Australia. In addition to adjustment in the current and capital account, accounting balance in balance of payment account often needs adjustment in its official reserve accounts. Therefore, currency fluctuations affect the gold prices. When the price of gold raises then this is usually good news for Gold mining companies. The financial report of Mining evaluation shows that a considerable share of their gold production will be hedged until 2019. Hedging helps to resist sudden shocks in the exchange rate market. Here the company is actually secure its stock values from the price fluctuation of gold (theconversation.com 2017). This makes the company less vulnerable to fluctuation in Australian dollar and that of price of gold.

 Qantas is one of the important airline industries in Australia. Cost of fuel is an integral part of the business. In order to provide air transport the company imports planes. Rising price of oil adversely affects the company business by raising fuel cost. Both the companies are exposed to the change in commodity prices (Bloom 2014). As the prices of commodity depend on Australian dollar these two business areas affected from exchange rate fluctuation. However, the exchange rate fluctuation have differential effect on Evolution Mining and Qantas. An appreciation of Australian dollar is favorable for Evolution Mining while it is bad for Qantas.

The link between commodity and currency is not much important for companies not directly attributable to commodity prices. These business areas show classical reaction when exchange rate change.

JB Hi-Fi is an Australian seller of consumer goods that mostly sold imported goods. Hence, exchange rate movement is important for business decision. When AUD appreciates, then it indicates a strong currency position of Australian dollar in the international market. The Australians have to pay relatively low price for the goods imported (Baur and Miyakawa 2014). As the goods are imported at a relatively cheaper price profit from these goods increase with currency appreciation. The company has adapted forward exchange rate to eliminate uncertainty and risk from exchange rate volatility.

Careless.com is another business area that deals with buying and selling of cars in the online platform. Many of the car parts are imported and hence make the company dependent on the exchange rate. The recent expansion of the company to the Latin American and Asian market increases its exposure to foreign currency market (Rees, Smith and Hall 2016). The extent of the exposure depends upon the correlation between the two regions. High correlation implies a significant exposure.

Impact on Importers

The financial reports of these companies reveal that Qantas and Evolution Mining are more vulnerable to commodity prices and hence is subject to fluctuation in the exchange rate.

Mining Evolution is an Australian gold mining company. Gold in Australia is priced against US dollar. Therefore, gold miners are likely to suffer under the regime of strong exchange rate (fool.com.au 2017). A strong US dollar makes gold expensive for the international demand. This affects the gold demand. An appreciation of Australian dollar resulted from weak US dollar benefits the gold miners.

For Qantas, there are two channels with which Australian dollar affect the business operation. A volatile exchange rate means a volatile oil prices. As the fuel price increases the cost of providing airline services increases. Australia imports aircrafts from US. As the currency fluctuation affects the import price of oil and other important part of aircrafts, the company severely affected from volatile exchange rate (Hassan, Mertens and Zhang 2016).

The gold mining companies in Australia earn revenue from selling silver and gold in valued in US dollar. Henceforth, movement in AUD/USD exchange rate affects the demand for gold, profitability of the company and stocks prices of the company. Australia imports aircraft to provide air transport service. The exchange rate between Australian dollar and US dollar determine price if imports from US. As the price of imported oil and aircraft increases, this affects Airline Company’s cost and hence air ticket prices.

• To find the trend in AUD/USD exchange rate and how it affects different business areas in Australia
• To find the impact of exchange rate movement on gold miners in Australia such as Mining Evolution
• To find the effect of exchange rate movement on Airline companies dependent on imported aircraft such as Qantas.

For the two chosen business category, the following hypotheses are formed to fulfill the designed research objectives.

Hypothesis 1: There is no significant relation between gold price in Australia and price of US dollar

Hypothesis 2: There is no significant relation between gold price and its sales

Hypothesis 3: There is no significant relation between movement of AUD/USD exchange rate and mining stock prices

Hypothesis 1: There is no significant relation between price of imported aircraft and cost of airline companies.

Hypothesis 2: There is no association between price of imported petroleum and cost of the Airline Company.

Hypothesis 3: There is no significant relation between movement of AUD/USD exchange rate and Airline ticket’s prices.

Research Question 1

Is demand and gold price in Australia is related with price of US dollar?

Research Question 2

Is there any relation between movement of exchange rate and stock prices of mining companies?

Research Question 3

Is cost of airline companies in Australia depend on the price of imported oil and aircraft?

Impact on Investors

Research Question 4

Does the movement of exchange rate affect airline ticket prices?

The information used in the research should comply some research ethics. These include identification of the relevant data, consents on the area of interest and most importantly, Data used for the research should not cause any distress or damage. Confidentiality of the business data should be maintained.

Once the relation between these business areas and exchange rate movements are found, they should conduct detailed research regarding the trend of exchange rates and other areas that might be affected from exchange rate movements.

Conclusion 

In the paper, a research analysis is conducted on the fluctuating trend of Australian dollar against the US dollar. Four groups of people likely to be affected from exchange rate fluctuations are exporters, importers, investors and government. Four important business areas affected from movement in exchange rate are gold mining sector, airline industry depending on imported aircrafts, seller of imported consumer goods and companies involve in online transaction of cars.

References 

Asiamattersforamerica.org. (2017). US-Australia Imports and Exports | Asia Matters for America by the East-West Center. [online] Available at: https://www.asiamattersforamerica.org/australia/data/trade/importexport [Accessed 8 Dec. 2017].

Baur, D.G. and Miyakawa, I., 2014. No puzzle: The foreign exchange exposure of Australian firms. International Review of Financial Analysis, 32, pp.13-22.

Bloom, N., 2014. Fluctuations in uncertainty. The Journal of Economic Perspectives, 28(2), pp.153-175.

Chaney, T., 2016. Liquidity constrained exporters. Journal of Economic Dynamics and Control, 72, pp.141-154.

Ferraro, D., Rogoff, K. and Rossi, B., 2015. Can oil prices forecast exchange rates? An empirical analysis of the relationship between commodity prices and exchange rates. Journal of International Money and Finance, 54, pp.116-141.

Gabaix, X. and Maggiori, M., 2015. International liquidity and exchange rate dynamics. The Quarterly Journal of Economics, 130(3), pp.1369-1420.

Gopinath, G., Helpman, E. and Rogoff, K. eds., 2014. Handbook of international economics (Vol. 4). Elsevier.

Hassan, T.A. and Mano, R.C., 2014. Forward and spot exchange rates in a multi-currency world (No. w20294). National Bureau of Economic Research.

Hassan, T.A., Mertens, T.M. and Zhang, T., 2016. Not so disconnected: Exchange rates and the capital stock. Journal of International Economics, 99, pp.S43-S57.

Motley Fool Australia. (2017). Here’s how you can benefit from a weaker Australian Dollar (A$). [online] Available at: https://www.fool.com.au/2017/03/06/heres-how-you-can-benefit-from-a-weaker-australian-dollar-a/ [Accessed 7 Dec. 2017].

Reboredo, J.C., Rivera-Castro, M.A. and Zebende, G.F., 2014. Oil and US dollar exchange rate dependence: A detrended cross-correlation approach. Energy Economics, 42, pp.132-139.

Rees, D.M., Smith, P. and Hall, J., 2016. A Multi?sector Model of the Australian Economy. Economic Record, 92(298), pp.374-408.

The Conversation. (2017). Explainer: how the Australian dollar affects the results of companies. [online] Available at: https://theconversation.com/explainer-how-the-australian-dollar-affects-the-results-of-companies-72585 [Accessed 7 Dec. 2017].

Tradingeconomics.com. (2017). Australian Dollar | 1993-2017 | Data | Chart | Calendar | Forecast | News. [online] Available at: https://tradingeconomics.com/australia/currency [Accessed 7 Dec. 2017]