By Cees Bruggemans, chief economist of FNB, 23 July 2007
There’s something remarkable about the Rand. It still hasn’t firmed unduly even as other currencies are doing handstands.
We should perhaps simply count our blessings?
Other commodity producers and emerging markets are being taken to the caning shed daily as their currencies can’t resist upward pressure from rising commodity prices, incoming capital and their own internal arrangements favouring trade surpluses.
But (so far) not the Rand.
When ignoring 2002-2005, during which many commodity and emerging currencies appreciated from undervalued levels, it leaves the experience since early 2006.
By early 2006 the Rand was at 6:$, and according to conventional wisdom overvalued by some 10%-20%.
But unlike the lockstep progression of the Rand firming along with other freefloating commodity and emerging currencies, as seen during 2002-2005, there was a clean parting of the ways these past 18 months.
The Aussie appreciated some 18% during this period. The New Zealand Kiwi had a slightly more volatile experience. When ignoring its 2006’s hiccup, ending the year where it had started, it has since then appreciated some 30% so far in 2007.
Whereas the Kiwi was late, the Canadian Looney had broken ranks even earlier, since early 2005 appreciating by 19% against the Dollar.
Anyway, whether these currencies started their breakaway from the Rand in early 2005, early 2006 or early 2007 is a moot point, really. All three were subjected to either commodity price surges (Canada and Australia especially) or were the target of love struck Japanese housewives dabbling in carry-trade investing, favouring Kiwi and Aussie, especially in 2007.
Throughout this period the Chinese Renminbi appreciated according to a tight schedule set by Chinese authorities. Currency appreciation also happened elsewhere in Asia and Latin America.
The commodity, capital flow and sometimes own investment abstinence (in the case of Korea and other victims of the 1998 Asian contagion, still carrying its scars) kept firming commodity and emerging currencies beyond 2005.
Except the Rand. We were lumped together with Turkey and publicly designated a bad risk. But is that the whole story or not even a part of the real story?
Between May and November 2006, the Rand weakened by 30%, touching 8:$, before sanity returned, allowing the Rand to claw itself back to 7:$, where it has lingered since, accompanied by minor volatility bounded by 6.80-7.40:$.
But we are effectively still 15% weaker than early last year, and much closer to fair value, as compared to our main commodity competitors, whose overvaluations have increased over the past 18 months by between 10% and 30%.
That’s quite a relative performance gap in our favour, to the tune of 25% to 45%. Who should we ‘blame’ or rather thank deeply?
Still, let’s acknowledge that the Rand’s 15% weakening last year did contribute to boosting our inflation surge.
It amplified oil and food price shocks, and probably created more protection for domestic producers, who for many reasons were becoming inclined to pass on more of their cost pressures.
The Rand should take part of the blame for our 2.5% interest rate tightening these past twelve months.
That’s not something too many indebted South African households will feel too happy about, and that import prices are now generally higher.
But this must be weighed up against the general welfare, in which we cannot ignore our producers, the employers of our labour.
Here we find consensus that while a firm Rand assists in keeping inflation down, an overvalued Rand cuts too much into our exports, giving undue advantage to imports. It boosts the trade gap and invites longer term financial instability, which could prevent as good a growth performance as otherwise might be achievable (difference between 4% and 6%?).
This relative Rand weakness, compared to the currency strength of many of our competitors and compatriots, cannot be blamed on us being less lucky.
Our export prices have also risen, and our capital inflow remained enormous, comfortably funding the trade deficit, despite us being regularly rubbished in financial commentary as a bad risk.
If it wasn’ for the SARB’s steady Dollar accumulation, today standing at nearly $29bn, up $7 billion since early 2006, the Rand would also have been sky high, marooned alongside the others in deeply overvalued territory.
Many of our producers would be suffering, our growth becoming more lopsided, favouring domestic over foreign consumption, incurring longer term risk of financial volatility.
So unlike the frequent criticism leveled at the SARB prior to 2006, about doing too little to prevent Rand overvaluation, such criticism doesn’t apply in 2007, even if it took a domestic boom, 7% of GDP current account deficit, increased South African investing abroad and steady foreign reserve accumulation to get a more balanced Rand value, even as other currencies are taken to the overvaluation woodshed for regular caning.
Until, that is, bank takeover rumours started to swirl last week, taking us near 6.80:$. Could 6:$ remain inconceivable, or is the global maelstrom sucking us in once again, overcoming all our elaborate currency defences?
