An "uncomfortably high" Australian dollar could mean that a Reserve Bank of Australia interest rate cut in the new year is on the cards.
As expected, the RBA kept the cash rate at a record low of 2.5 per cent at its Melbourne Cup Day board meeting, saying that recent cash rate cuts are helping the interest rate sensitive parts of the economy.
RBA governor Glenn Stevens said economic growth was still a little bit below trend, but he expects the economy to pick up next year.
"Private demand outside the mining sector is expected to increase at a faster pace, though considerable uncertainty surrounds this outlook," he said in a statement accompanying the decision.
However Mr Stevens added that the high currency is still a drag on the weaker parts of the economy.
"A lower level of the exchange rate is likely to be needed to achieve balanced growth in the economy," Mr Stevens said.
Westpac chief economist Bill Evans is predicting there will be two interest rate cuts in the first half of 2014.
"We continue to see the case for further easing of rates sparked by a persistently high Australian dollar," he said.
"This is a tactical statement designed to add some downward pressure to the Australian dollar while providing a balanced assessment of the risks for the economy in 2014," he said.
"Whilst we recognise that the recent boost to confidence is encouraging, time will be required to assess whether this materialises in a boost to investment, employment and spending decisions."
JP Morgan economist Ben Jarman said the RBA governor had used stronger language about the Australian dollar in his statement.
"They're getting more concerned about the direction of the Australian dollar and the fact that it's refusing to come down in line with the momentum of the real economy and interest rates," he said.
"They described it as `uncomfortably high' which is probably the strongest language they've used in this cycle to describe the currency.
The Australian dollar dropped over half a US cent to 94.67 US cents after the RBA decision.
Mr Jarman said the continued strength of the Australian dollar meant the Reserve Bank would likely have more work to do, with another cash rate cut on the cards next year unless the Australian dollar falls in the meantime.
Tapering of the US economic stimulus program was hoped to have pushed the US dollar higher and knocked the Australian dollar lower, but that doesn't look like happening soon, he said.
"Unfortunately, tapering is on the backburner for a little while so the question is, can the RBA hold out until we get that move?"
