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- AUD on back foot as charts and RBA argue for lower levels.

- RBA's Debelle says more AUD weakness would be welcome.

- Appears to vindicate market bets on RBA rate falling to 0.5%.

- As charts show scope for losses, AUD must hold 0.6720 level.

- Price action comes after latest damaging trade war escalation.

The Australian Dollar was on the back foot at the beginning of a holiday-shortened week Tuesday and both the charts as well as an influential Reserve Bank of Australia (RBA) policymaker are arguing for more weakness up ahead.

Guy Debelle, a Deputy Governor at the RBA, said early on Tuesday that weakness in Aussie exchange rates is playing the role of a shock absorber and that more of it would be welcomed by the bank. He also appeared to rule out the idea of the RBA taking its interest rate below zero at any stage, but did nothing to deter markets from continuing to bet that the cash rate will fall from 1% to 0.5% over the coming months.

"AUD/USD gave up some of the out‑performance it put on during yesterday’s New York session, easing on the cross rates (excluding vis‑s‑vis NZD) and against the USD to around 0.6760 in today’s Asian session," says Richard Grace, head of FX strategy at Commonwealth Bank of Australia. "Debelle warned the current “trade war” is a “significant risk” to Australian and global economic growth [and] noted the AUD plays an important role of shock absorber, and further depreciation would be helpful. Debelle stated that the likely floor for the RBA cash rate is 0.0% to 0.5%, but added the RBA would look at other measures if an RBA cash rate of 0.25% to 0.50% didn’t work."

The RBA has cut its interest rate twice this year in the hope of lifting inflation by stimulating growth through lower borrowing costs, but it signalled earlier in August that it'll likely wait a while before acting again. However, pricing in the overnight-index-swap market has since shown that investors still overwhelmingly expect at least one more rate cut inside 2019 and another no later than the end of the first quarter 2020.

Above: AUD/USD rate at hourly intervals and Pound-to-Australian-Dollar rate (black line, left axis).

Debelle made clear that one of the last things the RBA would want to see in the current environment is a stronger currency, which would simply further entrench Aussie inflation rates below the 2%-to-3% target band by making imports cheaper to buy. And his comments came amid another escalation of the U.S.-China trade war that is a further headwind for both the RBA as well as Australia's China-exposed economy.

"This threat to Australia’s economic health is evident in the ANZ Roy-Morgan consumer confidence survey, where negative sentiment toward the economic outlook threatens to derail the lift in confidence brought about by domestic policy settings," warns David Plank, head of Australian economics at ANZ.

The market-implied Australian cash rate for December 03, the RBA;s final decision of the year, is barely more than 0.60%. This suggests investors see a strong chance of a cut in the cash rate to 0.5% this year, although there's still room for bets on that outcome to increase in the months ahead, which would weigh on the Aussie.

Changes in rates are normally only made in response to movements in inflation, which is sensitive to GDP growth, but impact currencies because capital flows tend to move in the direction of the most advantageous or improving returns. Those flows tend to move in the direction of the most advantageous or improving returns, with a threat of lower rates normally seeing investors driven out of and deterred away from a currency.

Above: AUD/USD rate at daily intervals and Pound-to-Australian-Dollar rate (black line, left axis).

"AUD/USD will remain under pressure this week and will largely be driven by global developments. We see little upside to AUD/USD in coming months and have lowered our year‑end forecast to 0.6700. A stronger USD, slowing global growth and two more RBA rate cuts will weigh on AUD. However, the narrowing AU‑US interest rate spread and Australia’s improving current account position will continue to provide some AUD support," says CBA's Grace.

Debelle's address came in the wake of another damaging escalation of the U.S.-China trade war, which roiled markets on Friday and is now threatening to further hurt a global economy that was already slowing due to the tariff fight between the world's two largest economic powers. President Donald Trump said late Friday the U.S. will soon begin lifting the tariff rates applied to all of China's exports to America, from 10% to 15% and 25% to 30%, with the process set to be completed by December 15.

Trump's decision came just hours after China announced a 10% levy will be applied to around $75 bn of annual imports from the U.S., which was itself a retaliation against a previous decision by the White House to target all of China's annual trade with the U.S. with tariffs. China sells more than $550 bn of goods to the U.S. each year but by September 01, substantially all of those sold goods will incur tariffs when entering the U.S.

"The main risks to the updated AUD/USD forecasts are to the downside. This is because the downturn in global economic activity could be larger than expected, Australia’s terms of trade could decline more than expected, China’s exchange rate could depreciate more than forecast, and the RBA may have to resort to quantitative easing if a global economic shock eventuates," Grace wrote in a note to clients last week.

Above: AUD/USD rate at weekly intervals and Pound-to-Australian-Dollar rate (orange line, left axis).

The exchange of tariff fire came hard on the heels of a speech by Federal Reserve (Fed) Chairman Jerome Powell, who told markets "It will at times be appropriate for us to tilt policy one way or the other because of prominent risks," apparently referring to the trade war.

The comments suggest the Fed could be on the verge of changing its interest rate prescription for the U.S. economy, in a way that might favour steeper cuts to interest rates than the bank has been seen as likely to deliver. However, the Fed's slow pivot from raising rates aggressively in 2018, to easing them slightly in 2019, has not come fast enough for President Donald Trump.

President Trump criticised the Fed on Friday for not doing enough to keep the economic expansion running and exactly how the bank responds to this over the coming months will be key to the performance of both U.S. and Australian Dollars. Any continued reluctance to reduce U.S. interest rates would see the U.S. Dollar remain the highest yielding currency in the G10 universe, which might keep pressure on the AUD/USD rate.

If U.S. interest rates were to be reduced before year-end by anything like the 100 basis points Trump has previously argued for, the U.S. Dollar's relatively newfound 'high yield' appeal to investors could be undermined. That would benefit the AUD/USD exchange rate but in the meantime, the international newsflow favours a lower Australian Dollar and so too do the charts, according to some technical analysts.

"Intraday Elliott wave counts are negative for now. Rallies will need to regain the .6832 June low as an absolute minimum in order to alleviate immediate downside pressure," says Karen Jones, head of technical analysis at Commerzbank, referring to the AUD/USD rate. "Failure at .6720 on a closing basis will suggest ongoing weakness to the .6574/.6535 TD supports."

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