by Jim Vrondas

The spending cuts and tax rises announced in the budget will affect all of us directly in some way or another and have already exerted some influence on the Aussie dollar since Tuesday’s announcement.

When snippets of the budget were initially released a few weeks ago the currency weakened. In theory tighter fiscal policy could provide a significant headwind for economic growth in Australia. It also threatens to undo some of the RBAs work in stimulating activity and keeps the door ever so slightly open for another rate cut.

Whilst the central bank probably welcomed some of the policies sometimes there is a fine line between taking some of the heat out and freezing it altogether. Time will tell exactly what economic impact will be and if the RBA will need to react.

No budget emergency

It is clear framing a “budget emergency” in the lead up was predominately a political ploy. The Treasurers own forecast of the underlying deficit came down from an already low 2.1% of GDP in the middle of the year to just 1.8% - hardly a ballooning deficit in need of urgent attention.

Currency markets are usually a good way to gauge sentiment with the almost immediate half a cent rise seen as a small vote of approval. The reaction however also indicates a lack of any real concern by global investors about Australia’s fiscal position in the first place. If it was a major concern and the market was really relieved then I would have expected the Aussie dollar to rally further.

The small possibility of another reduction in the cash rate is one factor holding back the currency from rallying further but it has not triggered a wave of selling either, which leads me to believe that the Australian dollar will continue to press higher in 2014.

Faster return to surplus

Putting aside the downside risks to economic growth from this budget the shorter timeline for a projected return to surplus has been welcomed by currency markets. Prior to this budget it was envisaged that it would take around ten years to return a surplus however the government is forecasting a reduction in the deficit from $29.8 billion to a relatively neutral $2.8 billion over the next 3-4 years with a surplus by 2019-20.

In its modelling the government based its assumptions on very conservative unemployment and GDP forecasts of 6.5% and 2.5% respectively. As it is most likely these indicators will outperform over the next few years the budget will probably return to surplus sooner. One gets the feeling that a surplus or near surplus could come rather close to the next election.

Jim Vrondas is Chief Currency strategist, Asia-Pacific at OzForex, a global provider of online international payment services and a key provider of Forex news. OzForex Group Limited, is a publicly listed entity with shares traded on the Australian Securities Exchange under the code "OFX".