One of the most important factors for the Australian dollar (AUD) is the level of interest rates set by the Reserve Bank of Australia (RBA). As Australia is a resource-rich country, another important factor is the price of its main export commodity, iron ore. The health of the Chinese economy, its largest trading partner, is a factor, as is inflation in Australia, its growth rate and its trade balance. Market sentiment – whether investors are looking to take on riskier assets (risk appetite) or seek safe havens (risk aversion) – is also a factor, with risk appetite having a positive impact on the AUD.

The Reserve Bank of Australia (RBA) influences the Australian dollar (AUD) by setting the interest rate level at which Australian banks can lend money to each other. This influences interest rate levels across the economy. The RBA’s main objective is to maintain a stable inflation rate of 2-3% by adjusting interest rates up or down. Relatively high interest rates compared to other major central banks support the AUD, while relatively low interest rates do the opposite. The RBA can also use quantitative easing and tightening to influence credit conditions, the former being AUD negative and the latter being AUD positive.

China is Australia’s largest trading partner, so the health of the Chinese economy has a major impact on the value of the Australian dollar (AUD). When the Chinese economy is doing well, it buys more commodities, goods and services from Australia, which increases demand for the AUD and boosts its value. The opposite is true when the Chinese economy is not growing as fast as expected. Positive or negative surprises in Chinese growth data therefore often have a direct impact on the Australian dollar and its currency pairs.

Iron ore is Australia’s largest export, accounting for $118 billion per year according to 2021 data, with China being the top destination. The price of iron ore can therefore be a driver for the Australian dollar. Generally, when the price of iron ore rises, the AUD also rises as overall demand for the currency increases. The opposite is true when the price of iron ore falls. Higher iron ore prices also tend to lead to a greater likelihood of a positive trade balance for Australia, which also has a positive impact on the AUD.

The trade balance, the difference between a country’s export earnings and its import expenditure, is another factor that can affect the value of the Australian dollar. If Australia produces export goods that are in high demand, its currency will appreciate simply from the excess demand from foreign buyers who want to buy its exports compared to the country’s import expenditure. Therefore, a positive net trade balance strengthens the AUD, while a negative trade balance has the opposite effect.