Australia, until recently one of the fastest-growing developed economies, faces tougher times as its currency rampages higher and exports flounder.
The root of the problem is a bubble-like real estate boom and strong consumer borrowing, which analysts say the central bank is reluctant to support with interest rate cuts that would make the high-yielding currency less desirable.
The Reserve Bank of Australia chose this week not to follow other central banks and lower Australia's short-term interest rates, which at 4.75 per cent are the highest for any country with a top credit rating.
The result was a rush on the Australian dollar, pushing the currency above 68 US cents for the first time in five years as investors chased short-term interest rates 3.75 percentage points higher than they could get in US dollars.
Concerns are growing that the soaring currency could lead to a tumble in exports, which make up about 20 per cent of the Australian economy, and curb already slowing growth rates.
"The risks for a hard landing in the economy in late 2003 and 2004 have intensified," said Stephen Koukoulas, chief strategist at TD Securities.
"The strong Australian dollar, fuelled by very high interest rates at a time of weak global growth, runs a risk of further problems in the export sector and disinflation," he said.
The decision not to follow the euro zone, New Zealand and the United States in lowering rates has angered exporters, already struggling under the combined weight of a severe drought, the Sars virus and sluggish global demand.
Exports have fallen for three of the past four months.
Australia's economy, which boasted enviable annual growth of around four per cent last year, is finally feeling the pinch. The latest data shows growth in the "wonder Down Under" has slowed to below three percent for the first time since 2001.
The current account deficit has expanded to six percent of GDP, more than the United States', as the country sucks in more goods and services than it sells.
The tough conditions have been compounded by a 22 per cent rise in the Australian dollar this year as investors deserted low-yielding currencies such as the US dollar and Japanese yen.
But, with Australian house prices in some major cities up by as much as 50 per cent over the past two years, the central bank is worried lower rates will further inflate an asset-price bubble.
"It is regrettable that concerns relating to real estate may have influenced a decision which will clearly have much broader impact on Australian business... and ultimately jobs," said Australian Industry Group Deputy Chief Executive Heather Ridout. A falling currency shielded exporters six years ago during the Asian financial crisis and again when it stumbled to an all-time low of 47.75 cents in April 2001, helping Australia to avoid the fall-out from the US tech wreck.
"We have lost our natural cushion," said Mitchell Hooke, chief executive of the Minerals Council of Australia, who wanted the central bank to cut interest rates as soon as possible. "Every month they delay hurts Australia's economic prospects," said Mr Hooke.
The Reserve Bank may not have acted so far, but it has said it would lower rates if the global economy did not improve.
All but two of 21 economists polled by Reuters expected rates to fall to 4.50 per cent by September. Debt markets are still pricing in at least one easing this year.
Still, that may be too little too late to rein in the currency, which many analysts expect will rise to 70 US cents in coming months even if the Aussie's large interest-rate premium is pared back.