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Clarence
- Joined
- Sep 1, 2013
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- HSC
- 2014
- Uni Grad
- 2018
The exchange rate is the mechanism by which the value of the AUD is determined, through market demand and supply forces. The RBA can influence interest rates through two mechanisms. Firstly, the RBA can buy second-hand commonwealth securities. In return, the money supply increases. As a result of a larger pool of money, the cash rate decreases. Reflecting the cash rate, commercial banks then reduce their interest rates, because they require less finance to service their own interactions between themselves and the RBA in the overnight money market. Because interest rates are lower, storing money in Australian banks becomes less profitable, resulting in diminished capital inflows and greater capital outflows, and subsequently greater supply of AUD and less demand for AUD respectively. Ultimately, both of these forces then contribute to a depreciation. The converse is also true, wherein the selling of CSGS prompts an appreciation of the AUD. The RBA can also, more directly, 'dirty the float' by buying and selling stored values of currencies. For example, the purchasing of the AUD with the USD results in greater demand for AUD and an appreciation. However, RBA operations to 'dirty the float' are rare, and are prompted in extreme economic circumstances.
