Very good for some
The strength of the rand has astonished many. The rand is now more than strong enough to bring down inflation, which it is helping to do. The stronger rand and the downward pressure it has put on prices in the shops and showrooms is providing some encouragement to still very depressed domestic spending.
Further rand strength would not be very welcome. The gains made by consumers in the stores are at the expense of domestic manufacturers and their employees competing for shelf space. Their rand costs, especially their wage costs, are still rising while their pricing power in rands is under pressure from cheaper imports. It would greatly help if the trade unions moderated their wage demands accordingly, but such assistance has been sadly lacking and job losses continue as the manufacturers and miners attempt to reduce their costs to counter the pressure on their operating margins caused by the strong rand.
It needs to be appreciated just how strong the rand is; why it is so strong and what implications for economic policy should be drawn from it. The rand, as we show below, has not only gained against the weak US dollar and the not-so-weak euro, but has held its own against the growing strength of the emerging market and commodity currencies represented below by the Brazilian real (BRL) and the Australian dollar (AUD). We show this below and also that rand strength this month against the US dollar and euro is accompanied by strength in emerging market and commodity currencies, of which the rand is clearly one.
The rand in 2009, daily data
Source: I-Net Bridge and Investec Private Client Securities
The rand in October 2009 (Sept 30=100), daily data
Source: I-Net Bridge and Investec Private Client Securities
Why the rand is so strong
The most obvious explanation for rand strength is the hugely increased flows out of the dollar and to emerging market and commodity fund managers, of which SA receives a consistent share. Citibank analysts report very large net flows into emerging markets of US$45.5bn this year, of which US$4bn flowed in the past week up to 14 October 2009.
The JSE offers very convenient exposure to emerging and commodity markets for offshore fund managers. It is exposed much more to the state of the global economy than the SA economy, which given the depressed state of the SA economy, is just as well. The correlation between moves in the benchmark MSCI Emerging Market Index and that of the JSE when converted into US dollars is very close (about one to one) as we show below.
The JSE ALSI (USD) vs the MSCI EM (January 2009=100), daily data
Source: I-Net Bridge and Investec Private Client Securities
The JSE ALSI (USD) vs The MSCI EM, September to October 2009 (October 2009=100), daily data
Source: I-Net Bridge and Investec Private Client Securities
What it means to be a global market
This correlation shown above as indicated is no co-incidence. It is because JSE listed companies are fully exposed to the expected and improving trends in the global economy and especially the emerging market share of it, which is growing and is expected to grow at well above average rates. Hence the demands for shares in companies exposed to this promising growth found on the JSE.
How to capitalise on the opportunity presented by abundant capital
The question then is how best to take advantage of these inflows of capital that have brought with them rand strength. Or, to put it another way: what can and should be done to increase the demand for foreign exchange from SA, to perhaps hold back rand strength and in ways that will serve the economy and all those dependent on it?
Just grow faster and do all we can to encourage faster growth
The short answer is to use the opportunity presented by the abundant supplies of foreign capital behind rand strength to encourage the economy to grow much faster. The abundance of foreign capital and the strength of the rand scream out for faster SA growth. Faster growth might inhibit rand strength – though this is not certain given the influence of faster expected growth on the willingness to invest directly in SA. But even should faster growth not lead to a degree of accompanying rand weakness (due to the prospect of faster SA growth attracts more foreign direct investment), faster growth will surely be very welcome even if not accompanied by a degree of rand weakness.
Our call for policies to promote growth will not be surprising to our readers since we have been calling for such responses all year. We have called for urgent steps to be taken to revive household spending in the form of lower interest rates, accompanied by faster money supply growth: that is for quantitative easing to encourage the banks to lend more. The Reserve Bank therefore should be active in buying forex and by so doing adding cash to the system, and the extra cash should be accompanied by lower interest rates.
Perhaps one of the investments the Reserve Bank could usefully make with the dollars it buys in the market would be in foreign currency denominated RSA debt. This would improve both the government balance sheet and provide a very useful reserve for the time when SA government debt becomes less actively sought offshore
Encourage outward investment by institutional investors
The other steps to be taken to counter rand strength would be to encourage outward investment by SA fund managers. Listings of foreign companies on the JSE in which South African fund managers can invest freely – without limitation of foreign investment allowances – should get every encouragement. This is a very good time surely for the managers of SA retirement and pension funds to diversify some of the exposure to the SA economy of their clients. This will help build reserves in the form of offshore investments which can be drawn upon when circumstances in SA become less favourable. If such flows off shore help restrain rand strength for now, so much the better.