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The Rand’s fall to R17,75 this week is the result of US risk perceptions and a firm dollar, but load shedding will surely add to the currency’s woes as it weakens the investment case for South Africa, and further curtail growth.
In addition, it could have a negative influence on the repo rate increase that will be announced on Thursday.
Hugo Pienaar, chief economist at the Bureau of Economic Research at Stellenbosch University, says over the past week, global and domestic financial markets were dominated by a notably worse-than-expected US consumer inflation report for August.
“This not only sealed the case for another aggressive US Fed policy rate hike this week, but also led to investors and economists upwardly revising expectations of how high the Fed will need to push the policy rate to tame inflation.
“With the Fed now expected to do more, there were renewed US recession concerns, which weighed heavily on global risk perceptions. Along with a firm US dollar, this has weighed on the rand. Stage 6 load shedding over the weekend may have further weighed on investor sentiment towards SA,” he says.
Carmen Nel, economist and macro strategist at Matrix Fund Managers, points out that the Rand’s weakness against the dollar reflects the dollar’s strength to a great extent, with the Rand losing 10.1% against the dollar for the year-to-date, but the trade-weighted rand is weaker by only 1.2%.
Over the past week, the Brazilian real lost 3.6% and the Chilean peso declined by 2.8%, compared to the rand’s loss of 3.7%.
Nel says the slight underperformance of the Rand relative to the commodity-producing emerging market peer group suggests that SA-specific risks may be playing a greater role in today’s weakness.
Jeff Schultz, senior economist at BNP Paribas South Africa, says the Rand, along with a number of other high-yielding emerging market currencies, lost ground against the dollar in recent weeks, but points out that this has less to do with South African idiosyncrasies, such as load shedding.
“It has rather much more to do with an increasingly nervous global outlook which is dampening risk appetite and creating a ‘flight to safety’ as global concerns around recessionary risks, persistently high global inflation and a need for growth-restrictive interest rates takes hold.”
Neil Roets, CEO of Debt Rescue, thinks load shedding and pending interest rate announcements are currently the biggest drivers affecting the exchange rate as it does not bode well for an economy when electricity supply is unstable, although it is also affected by external factors.
“The intensification of power cuts late last week pushed the local currency to its weakest level against the US dollar since August 2020.”
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Pienaar says load shedding affects the Rand because it raises concerns about the domestic growth outlook, especially against a backdrop of deteriorating global growth prospects.
“This weakens the investment case for SA, meaning foreign investors could be less inclined to buy domestic assets, weighing on the rand.”
Schultz says on the other hand it is very difficult to extrapolate the impact load shedding itself has on the currency as most of the currency weakness in recent weeks is more of a function of global or external factors but increasing nervousness about the outlook for domestic growth made worse by persistent load shedding headlines means that the longer these pressures exist, the greater the chances of underperformance of the Rand compared to our emerging market counterparts.
“Persistent load shedding, particularly when it is as severe as what we are experiencing right now (stage 6), will increase the likelihood of a South African recession, as our linear estimates suggest a full day of stage 6 load shedding could cost the economy as much as R4 billion a day, hurting the outlook for the labour market, fiscal accounts and ultimately ZAR assets.”
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Pienaar warns that a weaker currency pushes up the cost of imported goods and if sustained, local manufacturers and retailers have to eventually pass on the higher input costs to the end consumer, which results in higher inflation.
Schultz says while a weaker growth outlook on the back of load shedding could eventually dampen domestic demand and ultimately prices, it is likely in fact to have the opposite effect in the near-term.
“Load shedding means increased input costs for a number of corporates and SMMEs that have to resort to using large quantities of diesel, for those lucky enough to have generators, which remain at near record highs. Load shedding also has a negative impact on productivity, where a number of companies have fixed cost bases, such as wages, but now have to spend more in order to generate the same amount of output.”
He also thinks this will essentially dampen productivity, raise their cost base and could well mean that companies have to start passing on these costs in order to maintain profit margins.
“The impact is likely to prove more inflationary for the economy over the next 6-12 months.”
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The Monetary Policy Committee (MPC) of the Reserve Bank (Sarb) will deliberate this week on the repo rate that will be announced on Thursday and their decision will largely be based on the inflation rate for August that will be announced on Wednesday.
However, could this harden the resolve of the MPC to increase the repo rate even more by maybe a full percentage point? Pienaar says the weakening trend for the rand versus the US dollar in recent weeks would certainly be seen as an upside risk to the inflation outlook.
“Combined with the unexpected return to a current account deficit in the second quarter, this is likely to feature in the MPC’s deliberations. However, in isolation, it is probably not sufficient to push a majority of the MPC to vote for a 100 basis points increase, although one or two members could vote for that.”
Schultz believes that the Sarb’s future reaction function is likely to be much more concerned with the impact load shedding has on short-to-medium term productivity and prices in the economy rather than the impact it has on the economic growth outlook itself.
“The hurdle for a 100 basis points hike this week (and even in future meetings) is not as high as one might imagine, given what we think will remain large concerns over the outlook for prices now exacerbated by a weaker Rand.
“The Sarb has previously and correctly argued, we think, indicated that it cannot be blamed for the structural deficiencies in the economy that are largely out of its control and mandate. As such, we maintain that the SARB will remain firmly fixated on ensuring inflation and inflation expectations re-anchor as quickly as possible towards its 4.5% target midpoint.”
He says BNP Paribas SA expects a minimum of a 75 basis points hike this week, followed by an additional 50 basis points in November and a 25 basis points hike in January.
Roets says although the general feeling is that the rate increase will be in the region of 75 basis points, it is not impossible that load shedding could influence the MPC to look as high as 100 basis points.
“At the beginning of the year, it was speculated that we would see around 100 basis points this year and possibly another in 2023. We have now already seen 150 basis points this year and our inflation rate is showing no signs of moving back to the Sarb’s band of 3-6%.”
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