Government incompetence keeping rand weak

Efficient Group chief economist Dawie Roodt said that while the rand is trading significantly below its fair value and will strengthen towards the end of 2023, it will not reach its fair value soon due to government incompetence. 

South Africa’s rand slumped to a record low against the dollar due to worsening diplomatic tensions and economic risks.

On 1 June, the rand dropped to R19.87 per US dollar, making it the worst-performing emerging market currency this month.

The currency slump followed accusations by the United States that South Africa supplied weapons to Russia which could be used in Ukraine.

South Africa is also set to host Russian President Vladimir Putin at the BRICS summit set to be held in Cape Town in August.

Putin, whom South Africa invited to attend the August gathering, is wanted by the International Criminal Court on charges related to Russia’s war with Ukraine.

As a signatory to the Rome Statute, which established the court, South Africa would be obliged to arrest him if he attended.

This is unlikely, adding further tension between South Africa and the United States and sour trade relations.

Roodt has previously calculated the fair value of the rand to be around R16.50 to the US dollar using Purchasing Power Parity (PPP) and the currency’s historical undervaluation. 

To calculate the fair value of the rand, Roodt uses a basket of goods to calculate the purchasing power of the rand in a similar fashion to how The Economist’s Big Mac Index works. 

He then adds the historical average undervaluation of the rand versus the dollar to its PPP to get the rand’s fair value. 

A currency never trades exactly at its fair value and, in the case of the rand, always trades weaker than its fair value, so one has to factor in the undervaluation of the currency to get an accurate fair value.

On average, the rand trades around 50% weaker than its fair value.

If nothing significant happens from now until the end of the year, the rand will drift stronger towards R17.50 to the USD, Roodt said. 

In the best-case scenario, the rand may even strengthen to R17.00/USD. 

The value of the rand follows a pattern where there is usually a momentary crisis which results in a sharp decline in the rand’s value, followed by a gradual recovery to fair value. 

Thus, the rand should incrementally appreciate against the dollar throughout the rest of 2023. 

However, Roodt said this is highly unlikely due to the declining attractiveness of South Africa as an investment destination and the increased risk of investing in the country with potential sanctions looming. 

This depends a lot on the behaviour of politicians in South Africa, which means that, according to Roodt, something will happen before the end of 2023 to induce a temporary crisis. 

“We can expect our politicians to discover a crisis to negatively impact the currency,” Roodt said.