During the period covered by the above graph, the Australian foreign debt rose steadily, reaching the sum of $A374 billion as at 31 December 2003. Though the Australian dollar should have fallen during the period, it didn't because of the effects of having relatively high interest rates in Australia.
The market value of the Australian dollar, as measured in US dollars, fell during 2000, steadied somewhat during 2001, and then rose steadily during 2002 and 2003. This can be explained by the fact that interest rates were initially lower in Australia than in the US during 2000, and then increased steadily and excessively during 2001, 2002, and 2003 in response to the mounting foreign debt threatening to weaken the Australian dollar. This can be seen more clearly by referring to the graph below, on the Australian Dollar v. Difference (Australian Interest Rates Less US Interest Rates), or by clicking here.
The downward movement in the market value of the Australian dollar was cushioned, and thwarted, by having a high interest rate differential between Australian and US interest rates. This differential increased further during 2002 and 2003, and the Australian dollar duly responded by increasing in value vis-*-vis the US dollar.
The Australian interest rate needs to be much higher than in the US, and be sufficiently high enough in order to stabilise the Australian dollar vis-*-vis the US dollar, as a result of Australia's huge foreign debt. This debt needs continuing funding by overseas investors, who require incentives (relatively high interest rates) to do so. This has therefore saddled Australia with a debilitating constraint in setting its economic policies. As a result, Australia has really lost much of its economic independence, something which the governing politicians are hardly likely to rush to admit to the Australian public.
