Why parity is good for Australia: Kohler

Australia’s share price is rising because the stock is a buy, thanks to rising income and a strong dividend yield, while the United States is a massive sell because it’s about to issue more equity.

At least that’s how stockbrokers might refer to what’s going on in foreign exchange markets, and why the Aussie hit parity on Friday night.

Meanwhile, Shane Oliver, the chief economist at AMP, says the 28-year period when the Australian dollar was worth less than one US dollar was an aberration, which is an interesting perspective.

He says the peak exchange rate was $US2.40, which prevailed from 1900 to 1930, apart from another aberration around 1920, when it briefly went below $US2.

On this perspective, Australia’s money was falling in value against the world’s most powerful currency, and economy, from 1930 to 2001, when it got as low as 47.75 US cents. Since then it’s been rising steadily and on Friday night our time (Friday morning New York time) it reached $US1.003. This morning it’s back to seven basis points below parity.

That moment on Friday came just as Federal Reserve chairman Ben Bernanke was rising to speak in Boston. He was expected to get more specific about QE2 (so-called, quantitative easing, where the Fed buys government bonds from banks with newly created money, adding to fresh liquidity to the financial system) but he didn’t really: it was a false start.

So traders have to settle back onto their blocks again, ready for the new dash for cash, expected around November 3 when the Fed’s Open Market Committee next meets.

And even though Bernanke wasn’t specific enough on Friday for the market’s sprinters, the clear implication from his speech was that the Fed will take further action to try get unemployment down and inflation up (it thinks inflation is too low and should be around 2 per cent) so parity is likely to be regained between now and Melbourne Cup Day, and then held.

Marathon runners like Shane Oliver can see the Australian dollar at around $US1.10 for years, because of strong commodity prices and the relative strength of the Australian economy. Others point out its “overvalued”, but it’s not clear what that means.

However, the long-term perspective on the Australian exchange rate invites the question: what happened in 2001?

I can see a forest of arms in class, with everyone shouting that it was the collapse of the internet bubble in 2000 and then the Al Qaeda terrorist attacks of September 11, 2001, leading to the hugely expensive ‘War on Terror’ and super-low interest rates.

Well yes, those things did happen around that time and certainly didn’t help.

But the other, more important, event was that China joined the World Trade Organisation on December 11, 2001, after 15 years of negotiation and prevarication by other members of the club.

Joining the club gave China lower tariffs when exporting to other members. The reason it took 15 years is that China was seen, especially the United States, as a predator. They were eventually persuaded that China would be more easily controlled inside the tent than outside, from whence it would be peeing in.

Well that wasn’t true, as it turned out, and China remained a predator, eating American jobs.

The US managed to turn itself into very easy prey by bankrupting itself with the War on Terror and creating a massive credit bubble with a year of 1 per cent official interest rates after 9/11.

The Australian government, meanwhile, was strengthening its balance sheet by selling Telstra to 1.6 million unsuspecting suckers who have since lost a fortune, and keeping interest rates relatively high because the head of our central bank was not an adherent of Ayn Rand like Alan Greenspan at the Fed.

But the key fact in the rise in Australia’s share price from 48 cents to $1 from 2001 is China’s theft of American jobs and its unbalancing of the global financial system through massive current account surpluses, following its entry into the WTO club in December of that year.

Not that I’m suggesting China should have, or could have, been targeted with punitive tariffs as a non-WTO member any longer than it was.

But China’s entry into the global trading club in 2001 was as important for Australia, and its currency, as Japan’s joining of GATT (the General Agreement on Tariffs and Trade) in 1963 under Prime Minister Hayato Ikeda.

Japan’s entry into the global trade club in the early 60s led to a wonderful resources boom, but unfortunately the Australian dollar was not free floating at the time and it was held at $US1.12 throughout the 1960s.

By the time Gough Whitlam won Government in 1972 and revalued it to $US1.4875, it was too late. As Treasurer Wayne Swan pointed out yesterday, inflation rose from 5 per cent to 17.6 per cent in two years and resulted in years of recession and political carnage.

Which is why parity is good for us.

This article first appeared on Business Spectator.