“Rand steady as dollar nosedives.” “Rand softer on global caution.” “Rand firmer on risk appetite.”
Those are just some of the headlines from a leading financial news organisation this week. I sometimes wonder why news media bother reporting on the currency market at all. The reporting is invariably of the “rand up/rand down” variety, focusing on putative reasons for short-term fluctuations, within a meta-narrative that describes a strong rand as inherently good. There is little or no examination of the fundamental economic factors behind the currency’s value, or of the longer-term implications.
I learned pretty soon during my two-year stint as Bloomberg’s currency market reporter in South Africa that it is very difficult to explain short-term movements in the currency. They are often driven by capital flows known only to traders who are executing the trades on behalf of corporate clients. Those who know, won’t tell, for obvious reasons (if you are trying to buy or sell rand, you want the best possible deal for your client; if other traders know of your intentions, that would be to your detriment because other traders would adjust their asking prices). Sometimes, sentiment, or a particular item of news – or rumour – also plays a role. So reporters grasp at reasons such as “risk appetite” or “global caution” to explain why the rand moved up or down by three cents, when in fact those movements are most often driven by ordinary corporate transactions – importers or exporters needing currency – without sentimental motivation.
But over the longer term, fundamental factors come into play, and what is happening to the rand right now should be of concern to everyone watching our economy.
Let me explain: South Africa is running, and has been for some time, a current account deficit in the region of 7 percent of gross domestic product. In simple terms, that means we are living way beyond our means. We are buying more from the outside world than we are earning from exports. To import, you need to sell rand and buy foreign currencies. So if imports exceed exports, you are selling more rand than you are buying: that means the price of the rand has to fall; in other words, your currency has to weaken. In a perfect world, that would eventually make your exports more competitive and imports more expensive, restoring your trade balance. But why is this not happening in South Africa?
Part of the answer is that foreigners are enthusiastically buying South African shares, almost enough so far this year to make up for the current account gap. There is also a huge inflow of “hot money” into our money markets. This is the co-called “carry trade”, which takes advantage of our relatively high interest rates. You can borrow yen, dollars or pounds at almost zero percent, use them to buy rand and place it deposit in South Africa, earning 6 or 7 percent interest. These flows are recorded in the capital account, which is in surplus, offsetting the current account deficit and keeping our balance of payments on the level.
That is all well and fine, but it means that the rand remains stronger than it should be, placing our exporters at a significant disadvantage in international markets. And it also forces the South African Reserve Bank to keep interest rates higher than they should be, because reducing interest rates would render the carry trade less attractive, leading to an outflow of capital and strain on the balance of payments. The strong currency and high interest rates place our manufacturing and export sector at a disadvantage, meaning our economy is going to struggle to emerge from the recession that most economists now believe it is in.
So the strong rand we are seeing at the moment is not really great news. But it should be a great news story. Why isn’t it?