The rand collapsed from R3 to R18 for a dollar since 1994

Since 1994, the South African rand has steadily weakened against the US dollar, dropping from R3.58/US$ to over R18/US$. 

The local currency has always been volatile as it is seen as a proxy for sentiment towards emerging markets and commodities. 

This results in relatively wild swings in value, depending on the prevailing global economic outlook and investors’ risk appetite. 

These impacts tend to be short-term, with the rand swiftly returning to its weakening trend against the US dollar.

As part of its 30-year macroeconomic review of South Africa, the Bureau for Economic Research (BER) outlined the rand’s declining value since 1994 and why this negatively impacts South Africans. 

It said the currency’s weakening is primarily driven by South Africa’s high inflation rate compared to global peers. 

In the long run, this requires a degree of currency depreciation to ensure the country’s exports remain competitive in the global marketplace. 

As inflation raises the cost of producing exports, they become less attractive than cheap alternatives. To counteract this, a currency is weakened deliberately to make the country’s exports relatively cheaper on the global marketplace.

The BER also flagged South Africa’s current account deficit – the country imports more than it exports – as another major reason for rand weakness. 

Consistently running a current account deficit results in money flowing out of the country and less demand for the local currency, which in turn weakens it. 

A major driver of this has been the declining output from South Africa’s mining sector, which is traditionally the country’s biggest exporter.

Having a weaker rand compound this problem by increasing the cost of imports, causing inflation and eroding South Africa’s export competitiveness. 

The South African Reserve Bank uses monetary policy to manage inflation so that this cycle doesn’t spiral.

Higher interest rates reduce inflation in many ways. They subdue economic demand by increasing borrowing costs and making saving more attractive. 

Another way in which higher interest rates help bring down inflation is by strengthening the rand to make imports cheaper. 

A higher interest rate improves the return on rand-based investments, particularly fixed-income investments, compared to investments in other currencies. 

This results in investors allocating more capital towards South African assets, increasing demand for the rand and thus boosting its value. 

However, the Reserve Bank cannot do much about another main driver of the rand’s weakness – the government’s poor financial health. 

South Africa’s government has consistently run budget deficits since the 2007/08 financial year by spending more money than it collects through taxes. 

While a budget deficit is not a bad thing in itself, consistent deficits result in a growing debt pile and skyrocketing debt-servicing costs. 

This crowds out expenditure on more productive areas of the economy, limiting economic growth. 

In 2008/09, gross loan debt amounted to R627 billion or 26% of GDP, with net loan debt at R526 billion or 21.8% of GDP. 

By this year’s Budget Speech, the government’s gross loan debt had reached R5.21 trillion, or 73.9% of GDP.

The government’s debt servicing costs skyrocket, paying over R1 billion a day in interest on its loans.

This results in a decline in the government’s creditworthiness, making investors unwilling to lend it money and demanding higher interest payments on its debt. 

In turn, this has resulted in rating agencies downgrading South Africa to below investment grade, meaning that money has flooded out of the country – weakening the rand.