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Rand firms in face of substantial interest rate cuts
November 17, 2009
By Ethel Hazelhurst
For a graph of the rand vs US dollar and repo rate - click here
While critics of monetary policy continue to call for sharp interest rate cuts and lobby for a weaker rand, the unit has firmed this year in the face of a 5 percentage point cut in interest rates.
Ian Cruickshanks, the head of strategic research at Nedbank Capital, said yesterday: "The rand was trading at just less than R10 to the dollar when the Reserve Bank first cut its repo rate on December 11 last year and, by the time the last cut to 7 percent was made on August 13, the rand had strengthened to just more than R8."
The unit, he said, was responding to a weaker dollar. The trend highlights the difficulty for policymakers who try to manage currency movements.
The ANC alliance partners - trade union federation Cosatu and the SA Communist Party - have led the campaign for a more accommodative monetary policy - a stand that has support among exporters, who are battling to remain competitive on global markets because of rand strength. Cosatu has told Parliament it would like to see the repo rate at 3 percent.
But Jean Francois Mercier, an economist at Citi in South Africa, said there was no direct link between interest rates and the rand. "In South Africa the unit now seems mainly driven by the equity cycle."
In other words, when foreign funds flow into South African shares, the rand firms.
Therefore a low interest rate environment, which is good for equities, makes for rand appreciation. The opposing view is that high interest rates attract offshore funds to local bank deposits and other money market products, strengthening the currency in the process.
Both theories have proved correct on different occasions. So the policy debate is bedevilled by the rand's inconsistent behaviour.
The first meeting of the monetary policy committee (MPC) to be chaired by new Reserve Bank governor Gill Marcus comes after the ANC agreed at a weekend summit with the alliance partners to review the bank's single mandate of price stability - and possibly broaden it to include economic growth.
But today's decision is unlikely to be seen as a litmus test of future monetary policy.
Marcus is widely expected to keep the rate on hold - after a 5 percentage point cut since December. But a further cut of a half percentage point would not surprise in view of the sluggish state of the economy.
Marcus will announce the decision at 3pm.
Any change to monetary policy remains some way down the line. And financial markets barely responded yesterday to the news of a policy review.
The rand ranged between R7.46 and R7.36 in line with Friday's moves. And money markets were equally unperturbed.
Cruickshanks said rates on forward rate agreements (FRAs) moved marginally. FRAs are three-month contracts that start at some time in the future.
Cruickshanks said on Friday that the FRAs were "seeing a 25 percent chance of a half percentage point cut and yesterday they had lifted the odds to 30 percent".
Mercier described the debate around a dual mandate as "misconceived". He said under its present mandate the bank did not ignore signs of a weak economy. "After all the MPC cut by 5 percentage points while inflation was above the target".
Inflation first breached the target ceiling in March 2007 and remained above it at 6.3 percent in September.
And Mercier pointed out that the bank currently targeted price stability "to ensure more stable and stronger growth over the long term". He said the trade-off was between growth in the short term and the long term. "Cosatu believes there is a permanent trade-off between inflation and growth, but that is not proved by the facts."
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