Historically, the Dollar is the world’s reserve currency and as such whenever there is a shock, uncertainty or Fed announcements, Traders traditionally choose to convert riskier (emerging) currencies into USD to safeguard it against risk. And so, as an emerging currency, the Rand is also susceptible to market risks that ultimately strengthen the Dollar at the expense of the Rand.
Inflation isn’t slowing down: That’s what the latest CPI Figures showed this month. In June, inflation rose by 1.3%, placing overall inflation at 9.1% year over year. This new record high is expected to propel the Fed to hike interest rates again, with experts predicting another 0.75 percentage point increase during the next central bank meeting next week. This causes investors to put their investments into the Dollar as an interest rate hike indicates a bigger return on their investments made in Dollar. Thus, as a consequence, the Rand falters as a result of a stronger Dollar.
The anticipation of a Fed hike could propel further decline from the metals markets as Gold is currently on a nine-month high as the Dollar looks set to strengthen. South Africa is a major exporter of Gold and so a decline in the price of Gold has adverse effects on an already struggling Rand. Investors concerned about the prospect of a global economic downturn have turned to the Dollar, which is up more than 2% this month. The Dollar has surged to a 20-year high against the Euro which has given the Dollar an even stronger perception in the international market as a safe-haven against risk.
South African Inflation
According to StatsSA numbers, consumer inflation recorded another massive increase after surging to 6.5% in May. At 7.4%, inflation has risen to its highest rate in over a decade. inflation rose above the South African Reserve Bank’s 3% to 6% target range in five years. The consensus expected inflation to accelerate at a slightly slower rate in June, forecasting 7.3%.
Inflation was primarily driven by high food and fuel prices, which have soared in record numbers owing to post-Covid market corrections and contributed significantly to the faltering Rand.
In reaction to StatsSA figures – the South African Reserve Bank (SARB) increased its repo rate by 0.75%, to bring it to a total of 9%, figures not seen in decades. The aggressive lift in interest rates in the US has implications for the interest rate differential between SA and the US, the narrowing of which makes SA assets less attractive. However, recession fears are growing as the aggressive tightening in global financial conditions has exacerbated the impact of resurgent waves of Covid-19 (specifically in China), supply chain disruptions, and the Russia/Ukraine conflict on the momentum of global growth.
The Rand’s weakening could not have come at a worse time for South Africa as we are experiencing the worst drought since 1992 which has increased food costs and pushed the farming industry into recession. The price of white corn, a staple food in southern Africa, has more than doubled on the South African Futures Exchange in the past year. The higher interest rate also means the farmer faces higher debt servicing costs which may force marginal farmers to reduce their operations and those that have already been in a dire financial situation to quit.
It is estimated that in 2022 load shedding could cost South Africa’s economy R500 million per stage per day as economic activity comes to a halt during power cuts. A global recession also seems to be on the cards as, historically downturns are preceded by a period of tightening monetary policy (rising interest rates, for example) and fiscal contraction (less government spending, higher taxes, or both) and often higher energy prices as seen in the past few months, and you guessed it – investors turn to safe-haven currencies i.e. the Dollar.
The other major dial-mover here is energy pricing. You don’t need me to tell you that the price of energy has rocketed this year. The US imports less oil than many of the world’s leading countries and meaning it spends less money on energy imports and therefore isn’t as badly affected as many other currencies thus the Russian/Ukrainian conflict has created the perfect storm against the Rand since the Dollar has strengthened, more inflation increases the price of oil (transportations and storage etc.) means more Rands are needed relative to Dollars of which the net effect is Rand weakness which correlates to Dollar strength.
The past three months have been some of the economically burdensome times the South African economy has been tested and one can only speculate on the direction of the Rand. But so long as current circumstances prevail one can expect the dollar to keep strengthening and for the Rand to weaken.