The South African economy required further “aggressive” interest rate cuts of up to 400 basis points in order to align it with economic fundamentals in its major trading partners and to slow the rate of appreciation of the rand against the major currencies, according to Standard Bank group economist Iraj Abedian.
Addressing participants at a presentation of the bank’s national road show in Cape Town on Thursday evening, Abedian said South Africa’s current real interest rate levels, at around 5,8%, were “way out of line” versus those of its major trading partners, with the UK at 0,4%, the European Union at 0,1% and the US at –1,1%. The South African Reserve Bank had been too slow to lower interest rates given the rapid fall in inflation, he said.
“The timing of the cuts is up to the SARB — they have a responsibility to ensure the cuts do not cause a speculative attack against the rand and spark more inflation — but the quantum of the cuts is really not up to them,” he observed. “If they end up cutting by less than 400 basis points, then we can expect the rand to continue to appreciate even more.”
Such a large fall in interest rates was not likely to cause the rand to depreciate, as long as it was done gradually, he added. His projection for the exchange rate of the rand — assuming 400 basis points of rate cuts through mid-2004 — was for the currency to be trading around the 7 level against the US dollar in June 2004. If the SARB did not cut by this much, though, the rand should move to around 6 against the greenback.
There was a limit to how much the rand would appreciate against other major currencies, he noted, as the US, UK and EU countries were starting on a rising interest rate cycle that would also narrow the existing gap with South Africa.
Another factor underpinning the stronger rand, namely the weaker US dollar, was likely to remain in place through at least early 2006, he added. This was due to the persistence of what he termed the “legislated deficit policy” of the Bush administration — the country’s huge current account and budget deficits — through the November 2004 election, and the additional time it would take to enact any new policies countering these deficits.
Also, given the lack of any credible “safe havens” in the world for investment, South Africa had emerged as a “mini safe haven” in its own right, Abedian believed, a factor also bolstering the rand. This was evidenced by the surge in local property prices, only surpassed so far this year by the Balkans.
Contrary to some views, Abedian contended that South Africa’s competitiveness was not being undermined by rand strength. Its current trade-weighted exchange rate was the same as levels last seen in June 2001, a time when most exporters were content with economic conditions.
“The country is not suffering–it is still earning good and rising levels of foreign exchange. Even though the rand has appreciated the most against the US dollar, South Africa’s exports to the US for the year to end-June 2003 rose in every category but steel — and that was due to higher US trade barriers against steel. Rather, some companies are now less profitable due to rand strength, and it is their suffering that is dominating the news.” – I-Net Bridge