ECONOMETER

Following the decision by the Reserve Bank of Australia to raise interest rates attention has swiftly turned to which central bank will move next. Indeed, there has been a reassessment of global interest rate decisions following Australia’s move. The hike in Australia is unlikely, however, to be quickly followed by the US, Japan, Europe or UK where policy is set to remain highly accommodative for long while.

Attention will however, turn to the Bank of Korea as well as the RBNZ and Norges Bank. In particular, the Norges Bank may be the next to hike when it meets on October 28. Norway has already appears to be priming markets for a rate hike. The RBNZ is likely to be slower to hike given the still slow pace of recovery in New Zealand and comfortable inflation backdrop.

The impact on currencies is not straightforward as the bigger influence on currency markets throughout the crisis has been risk appetite rather than interest rates. However, the influence of risk on currencies is beginning to wane and although interest rates have not been a major driver of currencies over recent months the move by the RBA likely accelerates the process of yield re-emerging as a key currency driver.

This is a big problem for the US dollar given that the Fed is unlikely to be quick to raise interest rates even if quantitative easing is withdrawn sooner. This means that the dollar will suffer from a growing yield disadvantage as interest rate hikes are priced in elsewhere. Taken together with improving risk appetite as reflected in the resilience of global equity markets, the main casualty will be the dollar, hit both from a yield and risk appetite perspective.

Risk currencies and those currencies with the greater prospect of higher rates will do well meaning further upside for the Australian dollar and New Zealand dollar as well as the Norwegian krone. Asian currencies look to continue to strengthen with the Korean won remaining an outperformer despite intervention threats by the Korean central bank. The euro will benefit from dollar weakness but is unlikely to benefit from anything euro specific given the likely slower pace of recovery in the eurozone. Meanwhile sterling is likely to remain under pressure, not helped by yield or risk appetite, and sentiment hit afresh by weak data.