Rand shock horror
Even if fully anticipated, the trend line would be completely smooth – and it never is
THERE ARE ONLY TWO CERTAINTIES about the outlook for the rand exchange rate: Over the short/medium term there can be no guaranteed forecasts at all; but there is, on all experience to date, one absolutely sure factor that will occur over the long term – a repetitive, though fleeting, return to norm of the “real effective exchange rate” of the rand, accompanied by wild fluctuations either side of that position.
Start with the short/medium situation. The rand is, we know only too well, highly volatile. It repeatedly rises or falls in value – moving over the past three decades vastly more often down than up – by quite significant amounts in only a few weeks, maybe even days.
Such movements are by definition “a shock”. If they had been fully anticipated, the trend line would be completely smooth – and it never is. Of course, some analysts will always be able correctly to claim on most (though definitely not all) occasions that they called the latest currency movements broadly correctly ahead of events.
That must be so. If there are enough predictions made, someone must necessarily come pretty close to getting it right whatever happens – except when all conventional assumptions are blown out of the water. Take, in that context, what SA’s Bureau of Economic Research (BER) said in March 2007. BER economist Hugo Pienaar advised: “SA is in a bit of a Goldilocks scenario. The current account of the balance of payments, the rand exchange rate and inflation seem to be less of a concern while interest rates are likely to be unchanged for the time being.” He added: “Those trends ensure that economic growth remains robust.”
Alas, things turned out very differently. A lot of the impetus has gone out of growth. Inflation has soared, even allowing for the lower revision of the consumer price index (CPI) that Statistics SA has carried out. The deficit on current account bounded up to 9% of GDP, annualised, in the first quarter of this year, against 6,5% between April and June 2007. And within the past 12 months the rand has briefly strengthened to firmer than US$0,15 (US$1/R6,50) and weakened as low a US$12,5c (US$1/R8).
I’m not remotely singling out the BER for special attention: it rightly enjoys an excellent reputation. But the BER is as subject to any other forecasting unit to explosive but unexpected economic change.
In March 2007 oil was back just above $50/barrel. The BER no more foresaw than
The rand is also subject to SA’s politics, commodity prices
and the world economy.
the International Monetary Fund (or any other major global economics group) that the price would be nudging $150/barrel barely 12 months later.
The rand is also subject to such massive but collectively unquantifiable factors as SA’s domestic politics, commodity prices and the world economy and world trade. There’s also the effect of the “carry trade”.
But what about recurring stability of the real effective exchange rate of the rand? What is that? And why does it matter? It’s an index figure calculated by the SA Reserve Bank. It’s based, first, on the trade-weighted value of the rand against a basket of all major currencies. In other words, it’s a much truer indicator of what’s happening to the currency than the US dollar/rand figure, which doesn’t directly allow for enormous shifts in the worth of the dollar worldwide.
But further essential refinement of the basic index arithmetic then takes place. Crucial allowance is made for the difference between SA’s inflation rate and the average level – trade-weighted again – of the rate of price increases in the other nations.
That’s vital. Suppose, as has been the case for more than 30 years, that the nominal exchange rate of the rand – the value indicated daily in the media – is on an obvious long-term downtrend, interrupted at times by upward bursts. That seems to indicate permanent happiness for exporters.
However, if a declining nominal exchange rate is boosting rand receipts by, say, 5%/year and SA’s inflation rate, and thus costs, is running five percentage points above the average of its trading partners – roughly the current case – the net result is no change.
That leads on to the perennial debate about whether the rand is over- or undervalued. At times it’s one, at times it’s the other. Sanlam chief economist Jac Laubscher points to research by leading US economist William Cline that looks at the hefty proportionate size of SA’s current account deficit. Cline says the real effective rate of the rand needs to fall by between 9% and 14% to get that deficit back to sustainable levels. That means there has to be an even greater decline in the nominal value of the rand to compensate for SA’s excessive inflation. Alas, a cheaper rand also fuels inflation.