Ask any currency strategist what drives the Australian dollar and the answer will almost always start with commodities. And among commodities, one stands above the rest: iron ore. No other single export has as much influence on Australia’s terms of trade, its current account balance, or its currency.

Understanding this link is essential for anyone who trades the Aussie, invests in Australian assets, or runs a business exposed to currency fluctuations.

Why Iron Ore Dominates

Australia is the world’s largest exporter of iron ore. In the 2023-24 financial year, iron ore exports were worth roughly A$135 billion — about a third of total goods exports. The Pilbara region in Western Australia, home to BHP, Rio Tinto, and Fortescue, is the beating heart of this industry.

Because iron ore is such a large share of Australia’s export basket, changes in its price have an outsized effect on the country’s terms of trade — the ratio of export prices to import prices. When iron ore prices rise, Australia earns more foreign currency for every tonne shipped. That improves the trade balance, supports national income, and tends to push the AUD higher.

The relationship works in the other direction too. When iron ore prices fall, Australia’s export revenue drops, the terms of trade deteriorate, and the Aussie typically weakens.

Measuring the Correlation

Over the past decade, the correlation between iron ore prices and AUD/USD has generally sat between 0.5 and 0.7 — strong enough to be a reliable guide. The correlation tightens during sharp commodity price moves and loosens when other factors (like US monetary policy) dominate.

Traders will notice that iron ore futures often move ahead of the AUD. The SGX (Singapore Exchange) iron ore contract trades during Asian hours and reacts quickly to Chinese data releases. The AUD tends to follow with a short lag.

Some quantitative trading desks have built models that trade AUD/USD based almost entirely on real-time iron ore price movements. According to Team400, a growing number of firms are incorporating machine learning into these models to capture non-linear relationships between commodity prices and currency moves — an approach that has shown promise in backtesting, though live performance varies.

What Moves Iron Ore Prices?

To understand where the AUD is heading, you need to understand what drives iron ore. The key factors are:

Chinese Steel Demand

China consumes roughly 70 per cent of globally traded iron ore, almost all of it for steelmaking. The level of Chinese steel production — driven by construction, infrastructure, and manufacturing — is the single biggest determinant of iron ore prices.

When Chinese steel mills are running at high utilisation rates, they consume more iron ore, and prices rise. When Beijing imposes production cuts (often for environmental reasons) or construction activity slows, demand softens and prices fall.

Supply Dynamics

The market is dominated by BHP, Rio Tinto, and Fortescue in Australia, plus Vale in Brazil. Disruptions to any of these — from cyclones in the Pilbara to heavy rains in Brazil — can move prices sharply. New capacity from lower-cost producers can also shift the market from deficit to surplus over time.

Inventory Levels

Port stockpiles at Chinese ports are a closely watched indicator. High inventory levels suggest weak demand or oversupply, and tend to be bearish for prices. Low stockpiles signal strong demand and can support prices.

A Shifting Landscape

The iron ore-AUD relationship is not static. Several structural trends could alter the dynamic over the coming years.

First, China’s economic rebalancing away from property-driven growth toward consumption and technology may reduce the intensity of iron ore demand over time. This does not mean demand will collapse, but the explosive growth of the 2010s is unlikely to return.

Second, the rise of green steel production — using hydrogen rather than coking coal — could change the type and quality of iron ore demanded, favouring higher-grade ores and potentially benefiting some Australian producers over others.

Third, Australia’s growing exports of critical minerals (lithium, rare earths, copper) are gradually diversifying the commodity basket. Over time, this could weaken the iron ore-AUD correlation as other commodities gain a larger share of export revenue.

Practical Implications

For traders, the iron ore-AUD link offers actionable information. If you see iron ore futures gapping higher on a Chinese stimulus announcement, the AUD is likely to follow. If Vale reports a major supply disruption, watch for the flow-through to the Aussie.

For businesses, the link is a reminder that currency risk and commodity risk are often two sides of the same coin. An Australian importer who buys goods in US dollars is indirectly exposed to iron ore prices, Chinese construction data, and Pilbara weather patterns.

Iron ore sits at the centre of the web. Ignore it at your peril.

James Hargreaves is a Sydney-based financial journalist covering currencies and macro markets.