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MERRILL LYNCH last week lumped SA together with Iceland and Ukraine as being in the midst of a currency crisis. Other emerging markets weren't in crisis yet, the bank said. However, many SA analysts are predicting a rebound in the rand from heavily oversold levels.
Already on Tuesday we saw the rand comfortably below the R11/$ level from levels close to R12 less than a week earlier. But predicting short-term moves from this point on is a lottery; the rand appears to move in tandem with global stock exchanges and it's still too early to call a bottom to the rout on these markets.
Nevertheless, economists are predicting a rebound in the rand. The Standard Bank sees R9/$ by year-end; so does the Bureau for Economic Research. Rand Merchant Bank - not known for being overly bullish about the rand - is forecasting R9.50/$ by year-end. Stanlib economist Kevin Lings sees the rand at R10/$.
But, so far, no one is saying the rand will go back to the levels of about R8-R8.50 it was trading at before full-scale panic stations.
Strange as it may seem now, even R8.50 appeared too weak for the rand before the crisis hit. That is the level that some economists say the rand should be trading at to reflect fair value. Nedbank economist Dennis Dykes believes the rand should be at R8.50/$.
Why won't the rand go back to its pre-crisis levels? After all, after the 2001 crisis, when the rand hit R13.85/$, it strengthened like nobody's business, reaching best levels of below R6/$.
Commodities crunch
There are four reasons why the rand won't repeat its spectacular comeback. First, commodity prices have been dropping and a floor isn't yet in sight. It would take a turnaround in the prices of SA's big export commodities for the rand's fortunes to change.
Second, the US dollar has been rampant. This is ironic, given that the US is the country in which the global financial crisis originated. But, even though the Americans are the culprits, US government bonds are still seen as the ultimate safe haven.
Another reason for dollar strength is because US financial institutions need dollar liquidity. They have been selling out of assets denominated in other currencies to meet their cash needs in the US. There's little sign that the US dollar will weaken again, although its recent rate of appreciation would be difficult to sustain.
Third, the global economy is in the midst of a financial crisis and a recession in the real economy. It's looking increasingly likely that this recession is going to be long and deep. It will take years before the world economy rebounds meaningfully from the terrible shape it's in. Against that background, SA needs a weak currency to be able to export to a world that is suffering from weak demand for foreign goods.
Fourth - and most importantly - SA is running a huge current account deficit with the rest of the world. That means that the country's imports, including "invisible imports" such as dividends, freight, insurance and other services, exceed its exports by a sizeable margin.
Self-fulfilling prophecy
In the second quarter of this year, the annualised current account deficit was about R164bn. That means that SA needs R164bn a year from foreign capital inflows to finance the shortfall between imports and exports.
If SA doesn't readily get that foreign capital inflow, the rand will weaken to a level where foreigners are again prepared to buy rands in exchange for dollars, so that SA is able to pay for its imports.
As we have seen, foreigners are capricious about investing in emerging markets. And the large current account deficit is a self-fulfilling prophecy: because SA needs foreign capital, the holders of foreign capital are scared of putting their money into rands because they fear the rand will weaken, causing capital losses on their investments.
Much has been made of the fact that the rand's woes aren't a reflection of SA economic policy. This is a global problem that has hit all emerging markets, including SA. However, the country's large current account deficit distinguishes it from other emerging markets and is a reflection of a policy of allowing domestic spending to run ahead of domestic production.
True, the rand would have weakened anyway, but the extent of the currency's volatility suggests that local factors have also played a role. The large current account deficit is the most important reason why the rand won't strengthen back to pre-panic levels.
- Fin24.com
