The build up to this week’s Australian federal budget has been like watching a trailer for the next Hollywood blockbuster. Definitely an action movie with plenty of car chases, some explosives and a fair share of innocent bystanders as casualties.
The raft of proposed spending cuts and tax rises will affect all of us in some way or another and will also have influence the Aussie dollar.
Initially, when the spin doctors promoting the film released snippets of the new movie the currency weakened. Tighter fiscal policy could provide a significant headwind for economic growth in Australia and threatens to undo some of the RBA's stimulatory work. While the central bank would like to see some policies aimed at cooling the housing market, sometimes there is a fine line between taking some of the heat out and freezing it altogether.
Since the initial leaks the Aussie has recovered mostly due to the resilient employment market and some greenback weakness. In reality, it is likely that the backlash and opinion poll decline of the Abbott government means it is likely to come in on the softer side of the austerity being discussed. To a large degree, currency markets are likely to focus on how quickly the government thinks it can turn the deficit into a surplus.
At present estimates this will take around 10 years. However if tonight’s budget sees this timeframe come in closer to five years, then I suspect the Aussie dollar will recover from any sell-off and continue its run higher this year.
Not all of the recommendations in the budget are contractionary. Talk of lowering the company tax rate to 28.5 per cent from 30 per cent would help businesses -- especially smaller ones -- grow and benefit economic activity. This would offset, albeit in a relatively small way, some of the tax hikes.
There may well be some other surprises in the film, but I get the sense that, like all blockbuster Hollywood flicks, the hero will save the day in the end and calm will be restored on the streets. In the meantime, find yourself a comfortable seat, grab the popcorn and get ready for some fireworks with the Aussie dollar tonight.
Jim Vrondas is chief currency strategist, Asia-Pacific at OzForex, a global provider of online international payment services and a key provider of Forex news. OzForex Group Limited, is a publicly listed entity with shares traded on the Australian Securities Exchange under the code "OFX".