© Kevin Penhallow, Adobe Stock

- AUD softens as market eyes steep decline in building approvals.

- AUD analysts have one eye on housing, the other on RBA outlook.

- Bad approvals number could hurt AUD ahead of Tues rate decision.

The Australian Dollar was lower in the Thursday session ahead of building approvals data due out early on Friday, which should provide an update on the tempo of the Aussie real estate downturn, although analysts are increasingly turning their attention toward next week's central bank meetings.

There is some prospect that housing-related headlines could hurt the Aussie Dollar ahead of next Tuesday's central bank meeting, which might provide a further lift to an already-buoyant Pound-to-Australian-Dollar rate.

However, that's only as far as the short-term is concerned because some forecasts suggest Sterling is close to having gone as far as it's likely to against the Aussie for the timebeing.

Australian building approvals are expected to have fallen by a whopping -12.5% in March, which will substantially reverse a larger 19.1% gain from February and will mark their largest one-month decline since December 2017.

Approvals of new home construction projects jumped sharply in February, offering hope to the market that the downturn in Australian house prices may have already done its worst to the pipeline of future building projects, although the consensus for the March number challenges that assumption.

"The housing correction is starting to have a clearer impact on the household balance sheet. The total value of dwelling assets fell $270bn over 2018, refl ecting both lower prices and slower completions," says Matthew Hassan at Westpac. "Westpac expects falling house prices to see a significant ‘wealth effect’ drag on Australian consumer demand this year and next. However, the exact nature and size of this effect remains a major area of uncertainty."

Above: Household balance sheets and net-worth figures. Source: Westpac Institutional Banking.

"While the overall decline in net worth, including other assets, is a touch milder than our early estimates it has clearly extended into 2019," Hassan writes.

House prices have been falling in Australia's major cities for some time now though the declines have now got the attention of the Reserve Bank of Australia (RBA), which has warned that consumer confidence and consumer spending may soon suffer because of lower household net worth values.

RBA policymakers may well be more attuned to those risks currently than they otherwise would have because the central bank has been losing its fight against below-target inflation for a number of years and is now on the verge of slashing its cash rate to stoke consumer price pressures.

The RBA is obliged by law to ensure that inflation sits at around the 2% midpoint of the 1%-to-3% target but the consumer price index has been stuck in the lower bandfor much of the time since 2014 and those already-weak inflation pressures will only be further undermined by a slowdown in consumer spending.

"It is possible that the RBA may opt to push for a wind back of macro-prudential measures which were previously imposed at the height of the property market boom to control the build-up of mortgage debt. The Australian Bureau of Statistics has indicated that housing finance approvals rose modestly in February albeit from a low base," says Jane Foley, a strategist at Rabobank.

The danger for the Australian Dollar on Friday is that, with financial markets increasingly attempting to gauge whether an RBA rate cut will be delivered next week, any substantial fall in building approvals might simply encourage speculation about an imminent cut.

Above: Pound-to-Australian-Dollar rate shown at daily intervals.

"Our base case of GBP/USD roughly range-bound in the low 1.30s and AUD/USD slipping back to around 0.70 implies AUD/GBP returns to the 0.5325/50 area, GBP/AUD to 1.8700/50 by end-June," says Sean Callow, a strategist at Westpac, in a recent note to clients.

The Pound-to-Australian-Dollar rate was 0.08% higher at 1.8624 Thursday and has risen 2.9% in 2019, while the AUD/USD rate was quoted -0.08% lower at 0.7007 and is down -0.67% so far this year.

"The Dollar strengthened overnight as the Fed reaffirmed its guidance. AUD and NZD led the weakness as risk appetite pulled back. We're looking for AUD to remain stable above 0.70 as we await the RBA next week," writes David Plank, head of Australian economics at ANZ, in a morning briefing.

Above: AUD/USD rate shown at daily intervals.

Interest rate decisions are normally taken in accordance with the outlook for inflation but impact currencies through the push and pull influence they exert over capital flows and the opportunities they present short-term speculators.

Rising rates normally encourage capital inflows and a stronger currency while hints of, or speculation about, rate cuts tends to discourage inflows and incentivise outflows. This can lead to a weaker currency.

"Australian and New Zealand central banks hold meeting next week, and both have seen speculation they will cut rates. Markets certainly expect some increased volatility in related FX pairings, judging by the price of options expiring afterwards," says Richard Pace, a senior currency and options analyst at Thomson Reuters.

The final nail in the coffin of Australian Dollar bulls was the first quarter inflation report, released last week, which showed the consumer price index falling to 1.3% last quarter, down from 1.8%, while the more important core-inflation rate dropped from 1.7% to 1.6%. The RBA needs both of these above 2%.

But expectations of an RBA rate cut had been building for some time, with a further significant milestone having come earlier in April when official data revealed that Australian GDP growth fell to 2.3% in 2018, from 2.8% previously, which defied RBA forecasts for economic growth closer to 3%.

All of the indications are that the economy will slow further in 2019 but the RBA still projects growth of around 3% for this year and next. It could well downgrade that forecast next week though.

"It can be argued that signs of stabilisation in the Chinese economy have reduced the urgency of a rate cut, though a stronger argument in our view is the timing of the Federal Election which is scheduled to take later in May. The RBA has cut rates once before in the middle of an election campaign. That said, there is a strong argument that this is not optimal timing for a policy move given the risk that it will change the electorate’s judgement of the incumbent’s party’s economic management," says Rabobank's Foley.

Financial markets are now betting so heavily on rate cuts coming this year that two full are now baked into the overnight-index-swap curve, which provides a rough estimate of market expectations for the cash rate over coming years.

The market-implied RBA cash rate for Tuesday 07, May was 1.39% on Thursday, some way below the current 1.5%, but the implied level for August 06, 2019 was all the down at 1.14%.

That suggests investors feel certain that a rate cut will have come before year-end. The implied rate for December 03, 2019 was just 1.01% Thursday, demonstrating an expectation for two full cuts this year.

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