A political turning point for the AUD

Australian consumer confidence has bounced along with the standing of the governing Liberal National Coalition after the leadership coup by new PM Malcolm Turnbull over the party’s previous leader Tony Abbott.

This is good news for the Australian economy and the hope is that the new leadership can own and develop and new plan for the country.  If successful, the confidence boost may be just the ticket to propel business spending and allow the federal and state governments more fiscal freedom to pursue infrastructure investment.

A word of caution is that the Abbot led government received an even bigger bounce in consumer and business confidence after it came to power in September 2013, only to flitter it away within six months and fall back to depressed levels after its failed attempt to tighten the national budget with a number of controversial measures that got stuck in the Senate and were widely criticized by the public.  It did not help, of course, that the mining sector down-turn worsened as commodity priced plunged more sharply.  Abbot was never able to regain the confidence of the public and the media turned on him after a number of gaffs, the most glaring and incomprehensible was to offer a knighthood to the British Queen’s husband, Prince Philip.

I can afford to be a bit more controversial at my own independent company these days, and I will go out on a limb and say Malcolm Turnbull has much more substance that Abbott and is capable of inspiring the public.  He might be accused of being on the arrogant side, but he comes across as authentic and a thinker, something that has been long missing from Australian politics and the public is crying out for.  His new Treasurer, Scott Morrison, has also built credibility in his previous roles as minister for immigration and social services as someone able to get results.  I sense that this could be a big turning point for Australia, perhaps a slow turn out of the mining down-turn, but the public is ready to embrace longer term policy making, accepts that the mining boom time is over and it needs to address weaker productivity growth.

The other cautionary tale is that recent events in the Liberal National Coalition bear much in common with the Labor Party’s booting of its leader and PM Kevin Rudd in 2010, near the end of his first term, in favour of Julia Gillard.  It then disgraced itself utterly by damaging internal snipping and division culminating with Rudd returning as leader just ahead of the election towards the end of Gillard’s first term as leader in 2013.  All along the Liberal National Coalition led by Tony Abbott claimed it would never run its party in such a way, dumping leaders mid-term.  Now the LNP has almost inconceivably done just that, and one might wonder if they are going to complete the circle by descending into its own pit of internal division.

However, while Abbott may be a stubborn pit-bull, he could never be the same level of egomaniac that was Kevin Rudd.  The former Treasurer Joe Hockey has secured a nice retirement job as ambassador to the USA, and one can only hope the LNC has learnt at least one lesson from the previous government.  The current Labor leader, Bill Shorten, has also failed to inspire the public and media attention may indeed shift away from goading the LNC into self-destruction, to goading the Labor Party to also ditch its leader before the election in about one-year’s time.

My guess is Turnbull will build on his boost in confidence rather than squander it and provide a sense of stability and purpose to politics in Australia after a long stint in the wilderness.  This should provide a better backdrop for the Australian economy and suggests that the outlook for the AUD is also brighter.

In a positive first step, the new PM is reported to be bringing forward the Mid-Year Fiscal and Economic Update from December to October to reset policy direction.

It is far from clear if the a better political environment will prevent further weakness in the AUD that has taken its cues from a down-turn in China, further highlighting the challenges for Australian commodity producers.

Less recognized is that Australia has benefited much from Chinese demand for its property and education and tourism services.  Economic activity does appear to be overall holding up, helped by a revival in other sectors supported by the weaker AUD and ongoing private sector capital inflow to Australia from China.

The outlook for these non-mining sectors, supported by Chinese demand, should remain relatively solid, although it now faces some challenges that may dampen it somewhat.  In the property sector, the Chinese market is starting to show broader strength, and may draw Chinese demand away from foreign investment.  The Australian government has tightened enforcement of foreign investment rules and the Chinese government has also tightened enforcement of its capital outflow rules.  This may take some of the strength out of the Australian property market.

As such, while the Australian economy is probably better balanced than many feared in the wake of the mining investment down-turn, it has been significantly supported by a weaker exchange rate and this should limit the currency’s capacity to rise much for the foreseeable future during a long period of consolidation in the mining sector.

Nevertheless, we can start to look at the AUD more favorably against some currencies.  This may include the NZD and funding currencies such as EUR and JPY.  AUD may continue to appear closely aligned to Chinese economic conditions and financial risks.  These pose further downside risk for the AUD.  However, the risks appear more balanced after the market has now significantly downgraded its outlook for China.