Where is the local currency headed?
The rand has clocked up gains of more than 30% against the dollar since the end of 2015, and hit a 20-month peak of R12.43 on 24 March this year. It has remained resilient since then despite a shock Cabinet reshuffle, credit rating downgrades, news that t
The general consensus is yes, with most analysts predicting the rand will end the year at current levels close to R13 to the dollar even if the Reserve Bank cuts interest rates again, as expected. For many South Africans, the trend is puzzling.
However, the currency has been supported by two important trends that show no signs of shifting soon. One is the global “risk on” environment, which means that investors are confident enough to pump money into emerging-market assets for the better yields which they offer. The other is South Africa’s widening trade surplus, which has narrowed the deficit on its current account – the broadest measure of trade in goods and services. This is key as the shortfall must be covered by inflows of foreign capital into domestic bonds and equities – also known as “hot money” – which could suddenly reverse in response to a shift in sentiment towards the country, or emerging markets generally.
In June SA recorded its fifth consecutive trade surplus, which was also the eighth over the previous 12 months. This brought the cumulative surplus for the first six months of this year to R27.68bn compared with a deficit of R5.04bn over the same period last year, according to the latest data from the South African Revenue Service. Ironically, the recession and weak household consumption is mainly responsible for the improvement.
A third reason for the rand’s resilience is that “real” interest rates – which take account of inflation – are still positive. According to Standard Bank, even after last month’s 25 basis-point interest rate cut taking the nominal repo rate to 6.75%, the Reserve Bank will still run an average real repo rate of 1.85% next year if its inflation forecast proves to be correct. The good news is that in theory this leaves room for another 50 basis points worth of interest rate cuts without undermining the rand.
George Glynos, managing director of Econometrix Treasury Management, believes that the rand’s bull run has another six to nine months to go, and says the currency could appreciate by another 10% over that period – or at least hover around current levels. ■
At the other end of the spectrum stands Nomura emerging-market economist Peter Attard Montalto, who predicts the rand will end this year at around R14 to the dollar, declining to R15 at the end of next year. Montalto, a consistent pessimist on the currency, believes that financial markets are ignoring worrying developments and assuming that every negative event is in fact “a path to a better outcome” for South Africa.
The biggest red flag for investors would be any undermining of the independence of the Reserve Bank, which is seen by investors as the last bulwark of institutional integrity in the face of corruption and “state capture”. The rand wobbled last month after Public Protector Busisiwe Mkhwebane called for a constitutional change in the bank’s mandate to focus on growth rather than inflation, with the aim of promoting social well-being. She has since backed down, but the ANC indicated at its policy conference in June that it wanted to nationalise the bank, with a final decision to be taken in December. The biggest threat to rand stability in the months ahead would be downgrades of SA’s local currency ratings by Moody’s and Standard & Poor’s, which have both kept them on the lowest rung of the investment grade ladder. This would be likely to trigger foreign selling of domestic bonds to the tune of $8bn to $9bn, which would hit the rand hard and likely force it to depreciate to around R15 to the dollar.
Barring major political shocks, most analysts believe this is unlikely to take place until after rating agencies have digested the outcome of the December ANC leadership conference and the National Budget in February, which will be the first one for newly appointed finance minister Malusi Gigaba. Nonetheless, the leadership contest between ANC factions supporting President Jacob Zuma and those opposed to him has the potential to cause a major upset, and any indications of a clear victory for the Zuma camp ahead of time will take its toll on the currency. Signs of flagging appetite for emerging-market assets would also be negative for the rand. ■
The headquarters of the South African Reserve Bank in Pretoria.
George Glynos Managing director of Econometrix Treasury Management
Peter Attard Montalto Economist at Nomura