David Britten, APAC managing director, Corpay Cross-Border Solutions
It is generally understood that Australia’s growing inflation problem is having significant impacts on cross-border businesses, with price hikes driven by rising global demand and supply chain challenges. Despite the COVID-19 pandemic receding and giving brief respite to local businesses, the Russian attack against Ukraine may have contributed to inflation, leading to increased freight costs, port closures, supply chain disruptions, and escalating commodity prices on a global level. It has also likely had a ripple effect across Australia, increasing production and raw material costs and generating high volatility in market prices .
Despite Australia’s annual inflation rate sitting lower than its global counterparts, it recently increased to 6.1 per cent in the June quarter from 5.1 per cent compared with market forecasts of 6.2 per cent. According to the Australian Bureau of Statistics (ABS), goods continue to be the primary driver of inflation, contributing 79 per cent of the increase in the consumer price index (CPI) this quarter due to high freight costs, supply constraints, and persistent high demand. As demand is likely to continue to exceed supply, inflation isn’t slowing down anytime soon. According to the treasurer, Jim Chalmers, Australia’s inflation will peak at an annual rate of 7.75 per cent by December 2022 and will trend downwards at around 3.5 per cent in 2023 and 2.5 per cent in 2024.
Our interpretation is that inflation will also impact the value of Australia’s currency, as well as the rates of foreign exchange it has with currencies of other nations. The Australian dollar is projected to reach at least US$0.74 by the fourth quarter of this year. This comes as a relief to many cross-border businesses as it slipped as low as US$0.68 in May, making it a record two-year low.
Cross-border businesses are feeling the impact of a fluctuating dollar, especially when it comes to the cost of buying supplies and equipment overseas. With higher inflation rate predictions combined with supply chain disruptions and soaring production costs, businesses could be looking for ways to mitigate currency risk and minimise the chance of losses due to exchange rate volatility. It also means cross-border businesses must have an acute awareness of the risks that come with trading in international markets and the impact of:
- Transactional risk: (the possibility of incurring future losses or gains in multi-currency transactions because of fluctuations in the foreign exchange market.) Dealing with transactional risk is an essential part of a business’s risk management strategy, but by implementing a flexible budgeting approach, businesses can help accommodate market fluctuations and be less likely to experience financial loss, regardless of market conditions.
- Translational risk: (the risk of incurring losses to a company’s assets, liabilities, or income as a result of exchange rate changes) Businesses with foreign operations can try to reduce translational risk exposure by leveraging hedging, a risk management strategy intended to offset potential losses or gains.
- Economic risk: (the possibility that changes in macroeconomic conditions can negatively affect multi-currency budgets and create volatile markets. For example, inflation, foreign exchange currency rates, and shifts in government policy are three major external factors with significant possible economic implications.) Businesses can prepare for fluctuating market demands by adopting dynamic pricing strategies. This means businesses can adjust the cost of products or services to adapt and fight uncertainty and gain better and more accurate predictability.
There are several strategies when it comes to managing currency risk. The ‘wait and see’ approach is favoured by those who believe and hope it all evens out in the end. However, it’s wise to consider factoring currency risks into an overall business risk analysis to understand the potential impact of foreign exchange rates on the balance sheet. It’s also important to remember that there is no one-size-fits-all approach.
Businesses should consider steering clear of traditional multi-currency budgets that become obsolete during market volatility and instead adapt quickly with a flexible budgeting approach that accommodates market changes. One of the first steps businesses can take is to identify the types of risk they may be exposing themselves to and then work towards a strategy based on those risks to meet business objectives.
Organisations operating across borders face an uncertain landscape that they must prepare for. Market volatility, coupled with the recent fluctuation of the Australian dollar, can affect financial performance and margin objectives. With inflation expected to peak at 7.75 per cent at the end of the year, combined with market volatility and supply chain disruptions, businesses should look to implement appropriate risk management strategies.
Setting up an adequate multi-currency budget can be a significant factor in helping businesses anticipate and respond to dynamic market conditions, maintain well-considered budgets, and meet goals for a successful future. By evaluating market dynamics and setting their budget and goals accordingly, businesses can avoid exchange rate surprises and make decisions. Working with a trusted advisor is valuable to help organisations plan effectively and deliver managed outcomes.