1. External Stability Lesson Three The Exchange Rate

2. Measuring the Exchange Rate Another indicator of Australia ’ s external situation is trends in the exchange rate. The exchange rate measures the price at which Australia ’ s currency can be swapped for another country ’ s currency.

3. Why do we exchange currencies? Currencies must be exchanged because when you want to buy something overseas you must pay for it in that country ’ s currency.

4. Floating v Fixed Exchange Rate Prior to 1983 Australia had a fixed exchange rate. This means the value of the dollar is fixed to another country ’ s value. It is artificial and does not reflect the true value of the currency.

5. Floating Exchange Rate Australia has had a floating exchange rate since 1983. This means the value of the dollar is determined by demand and supply of the currency.

6. Floating Exchange Rate When there is high demand for the currency, the value of it will appreciate When there is low demand for the currency, the value of it will depreciate

7. What causes an appreciation or depreciation of the exchange rate Copy the three diagrams that form part of Figure 6.13 pg 240 into your books. Also Copy out the explanation of an appreciation and a depreciation of the exchange rate.

8. What causes changes in demand for a currency? If there is increased tourism to Australia, then more people will need to purchase or convert their currency into Australian dollars.This increases demand for the AUD and hence appreciates its value. If we are exporting products that are in high demand overseas, (eg our coal and steel exports) people will need to purchase Australian dollars to buy it. This increases demand for the AUD and hence appreciates its value.

9. If interest rates are higher in Australia than overseas, then investors in the FOREX market will purchase Australian dollars to get a high rate of return.This increases demand for the AUD and hence appreciates its value.

10. Supply of the Australian Dollar If Australia increases it ’ s supply of Australian dollars overseas, this will Depreciate the value of the currency.

11. DO THIS ACTIVITY Show an increase in demand for our currency and how this effects the price of the AUD on a Demand and Supply diagram. Show an increase in supply of our currency overseas and how this effects the price of the AUD on a Demand and Supply diagram.

12. What causes changes to supply in a currency If Australian ’ s suddenly increased their travel overseas eg to the UK for the Ashes, then they would have to swap Australian dollars for Pounds. This would increase supply of Australian dollars Overseas, and hence depreciate the value of our dollar.

13. If Australian ’ s increased their import expenditure rapidly, then they have to swap Australian dollars for the Overseas country ’ s currency in order to purchase the imports. This increases supply of Australian dollars Overseas and depreciates the value of the Australian Dollar.

14. Measures of the Exchange Rate There are two measures of Australia ’ s exchange rate: 1.Individual exchange rates 2.Trade weighted index (TWI)

15. Individual Exchange Rates The Australian currency has a separate exchange rate for every currency in the world. These express how many currency units for each country can be purchased with one Australian dollar

16. TWI The TWI represents the average exchange rate for a basket of foreign currencies weighted according to their relative importance for Australia

17. Recent Developments In recent times the Aussie dollar has hit record post-float levels against the United States. This can be attributed to the soaring prices for the likes of coal, iron ore and gold. Also we have had fairly high interest rates compared to the rest of the world, encouraging forex investors to invest in Australia and demand our currency.

18. As the official cash rate is now at emergency levels of 2.5% and commodity prices are falling we are seeing a fall in the value of the Australian Dollar.

19. Answer the questions 1- 6 pg 243