Why is external stability measured in accordance with
movements in the exchange rate
We have had a floating exchange rate since
1983. The Aussie dollar fluctuates according
to the level of demand for the Australian
dollar. Therefore the objective of external
stability is best measured in accordance with
the behaviour of Australia’s exchange rate, as
when Australia has a strong exchange rate it
means that there is high demand for the
Australian dollar, either due to competitive
export prices or through foreign investors
exchanging their currency for Australian
dollars in order to invests their funds in the
financial sector due to relatively high domestic
interest rates.
A high exchange rate generally means that
Australia is exporting more (as importers must
exchange their currency for Australian dollars
in order to pay for Australian exports) and can
repay more of our nation’s foreign debt with
less Australian dollars, therefore a strong
sustainable exchange rate produces a lower
current account deficit (due to cheaper import
prices and our exports being more valuable )
and reduced net foreign debt(as a stronger
exchange rate allows us to repay more our past
external debts and effectively meet debts that
arise) which assists in meeting the criteria
required for the objective of external stability.