Rand recovering but Russians not only reason for its fall

The rand is recovering after its sharp fall last week, but it should be remembered that the Russian weapons debacle was not the only reason for its struggles. Rolling blackouts played a major role as well.

After the rand exchange rate fell to its weakest level ever against the US dollar and euro, following accusations by the US that South Africa supplied weapons to sanctioned Russia, the currency recovered ground on Monday, trading at R19.03 by Monday night.

However, the Bureau for Economic Research (BER) at Stellenbosch University says the rand was already under tremendous pressure before the weapons announcement late on Thursday.

“While always difficult to pinpoint the exact reasons for currency moves, increased anxiety about the domestic power crisis, including concerns that it could get even worse in coming months, contributed to the severe currency losses of late.”

According to the BER’s calculations based on Eskom data, the cumulative amount of load shedding so far in 2023 already surpassed the 2022 record by early May and this was before last week’s streak of stage 6 rolling blackouts.

“It is often the case that international developments largely drive rand movements. For example, we see the rand and other emerging market (EM) currencies weaken because the dollar strengthened on the back of solid US data and changing interest rate expectations, rather than something that happened in SA.”

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Investor sentiment

Due to South Africa’s deep and liquid financial markets, the rand is also often seen as a proxy for investor sentiment towards EMs in general, but the bureau says the rand weakness is largely caused by idiosyncratic local developments, with other EM currencies not experiencing the same depreciation.

“A further sign of this is that the rand’s losses have not been solely against the US dollar but also against a basket of currencies from our major trading partners. Last week, the rand lost about 5% week-on-week against the dollar but also depreciated by more than 3.5% against the euro and pound,” the bureau says.

The rand touched an intraday record low against the euro on Friday, with its value against the pound slipping to the weakest level since 2016. The BER says higher local bond yields (reflecting lower prices) confirm the South Africa-specific nature of the collapse in investor sentiment and that it is not driven by global or EM developments.

“One of the likely reasons sentiment towards South Africa soured so remarkably in recent weeks is increased talk around the real possibility of higher-stage (8 or 10) rolling blackouts or even a total grid collapse that can lead to a deep GDP contraction which rightfully spooks investors.”

ALSO READ: Cost of rolling blackouts exceeds R1.2 trillion, small business suffers most

Lower commodity prices

The BER says another likely reason is that prices of some key South African export commodities have now turned decidedly lower, with little prospect of these turning around soon. “This weighs on our terms of trade and foreign trade balance, with the current account deficit set to worsen significantly through 2023.”

Lower commodity prices also mean that the mining tax revenue windfall the country benefitted from in the past two fiscal years has largely ended. According to recent data from National Treasury, the country will probably miss the primary surplus budget target set for the fiscal year ending in February 2023 due to higher-than-expected VAT refunds.

“With a higher-than-budgeted-for increase in the government wage bill in 2023/24 and pressure on revenue with a sluggish economy and lower commodity prices, the fiscal ratios for this fiscal year are also likely to turn out worse than the expectation in the February budget,” the BER warns.

Expectations for the worsening of South Africa’s ‘twin deficits’ hurt the value of the currency. “A deteriorating trade, fiscal and real GDP outlook could have negative implications for our sovereign credit rating.”

In addition, while it is not a new development, the country’s greylisting by the Financial Action Task Force does not help with sentiment towards SA.

ALSO READ: Rand back to Covid levels thanks to rolling blackouts

Final push for the rand

The BER says the final push for the rand was the diplomatic fallout following Thursday’s accusation by the US ambassador that SA supplied weapons to Russia in December 2022. “Over the short term, the weak rand (especially if sustained) could have implications for local monetary policy. For now, we still expect the SA Reserve Bank (Sarb) to hike the repo rate by 25 bps next week, but a 50 bps hike cannot be ruled out, especially if the rand does not strengthen meaningfully.”

The Sarb was already vocal about the inflation risk posed by the rand exchange rate in the March meeting and this has now materialised. At the time of the previous meeting on 30 March, the implied starting point for the Sarb’s rand forecast was R18.06/$. The average for Q2 so far is almost 30 cents weaker, but with the rand closing above R19/$ on Thursday and Friday, this average is being pulled up rapidly, the BER says.

“One recent positive development on the inflation front has been the slow, but steady decline in the Brent crude oil price since the start of the month. The one-month future price declined by a further 1.5% week-on-week and is now more than $10/bbl below the price this time last month. Unfortunately, if sustained, the weak rand could counter the positive impact this could have on local fuel prices.”