Our economists expect the RBA to remain on hold throughout 2018, and we think their neutral tone at last week’s meeting pointed to increasing discomfort with market pricing holding the AUD at overvalued levels. Consumer sentiment data this week are likely to corroborate our view that lukewarm domestic demand will continue to weigh on wages and tie the RBA’s hands.
The RBA aside, AUD/USD is now trading excessively rich against the real rate spread, even if the improving trade balance has reduced the need for capital inflows (Figure 1). The risk on the USD leg is for Friday’s inflation data as well as near-term progress on tax reform to surprise relative to bearish market expectations and fuel the USD bounce. With USD positioning particularly short against the AUD, we see the greatest downside risk in this cross (Figure 2).
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