Over the last couple of decades, South Africa has experienced changes characterized both with ups and downs.
As one of Africa’s biggest economies and a major commodity player on the global scene it has grown GDP from approximately R3.1 trillion in 2003 to R4.6 trillion in 2022. This was not without its trials and tribulations as politically and socially there have been several difficult periods, but the optimism and ingenuity of its people remains something to celebrate.
In 2010, SA was included in the BRICS acronym. BRIC (now BRICS) was originally coined by Jim O’Neill in his report Building Better Global Economics in 2001. He projected that by 2050 the block of countries could represent a substantial share of global GDP as their economic potential is underlined by large populations, abundant natural resources, and favourable demographics. Growth prospects aside, he highlighted that the growth won’t be linear as challenges around inequality, politics, governance, and market openness would present a high risk.
The commodity super-cycle of the beginning of the 21st century supercharged economies driven by the materials and mining sectors such as South Africa. In the process of liberalizing the economic system of the state and the facilitation of the movement of capital in and out of the country, changes in foreign exchange controls were implemented. Restrictions on various capital flows were relaxed and a more principle-based approach put in place, although recently in 2023 there has been indications of more restrictive conditions.
For example, Single Discretionary Allowances were introduced in 2004 by the South African Reserve Bank (SARB) that allowed residents to transfer money abroad without specific prior approval set at R 500,000 which was steadily increased to R 1 million per annum. A foreign investment and emigration allowance has allowed investment in foreign assets and participation international markets and direct asset transfers abroad. In addition, exempt transactions that don’t require approval have expanded to payments for travel, education, medical expenses, among others paired with the relaxation of the capital control requirement has allowed for a capital flight to a limited degree.
Challenges around inequality, unemployment and the broader economy have resulted in some residents looking abroad when trying to preserve their capital. Money earned abroad has not necessarily come back into SA, as personal remittances as a percentage of GDP have remained mostly flat since 2006. An unintended consequence of the liberalization of the South African foreign exchange controls may have led to exacerbating the sell-off of the Rand as economic and political factors lead some workers, investors, and entrepreneurs to move capital outside the country.
Rand exchange rate most welcome for South African citrus exporters"
Economic factors impacting FX in Emerging markets
There are several factors that affect emerging market foreign exchange – macroeconomics, government stability and policy as well as relationships with trading partners. Looking at GDP growth and Foreign Direct Investments (FDI) since 2004 we don’t necessarily see a clear upward trend consistent with growing EM countries rather ebbs and flows with decline between 2014-18 and annual growth below 5%. FDI has also remained muted picking up in 2018 only to decline again. Inflation has largely been kept at a sustainable level below 6% while the interest rate environment has also been relatively stable since 2010 offering moderate yield pick-up for the given risk. Whether the fiscal policy has been successful to foster growth is a different question. Strong economic growth and lower inflation attract foreign investors, strengthening the local currency as more demand and foreign direct investments come into the country.
The current account balance of a state includes exports, imports, and net income from abroad. A country with a strong trade surplus and positive current account balance is likely to have a stronger currency, while a trade deficit can put downward pressure. In the chart below, we observe a consistent negative current account balance since 2003 until 2020. At the same time income from abroad has gradually declined over the last couple of decades seeing only an uptick before the pandemic.
In addition, strong trade links with major trading partners can impact the institutional buying/selling of the Rand. A drop in the prices of those goods or services means that those buying in the local currency would be paying less hence needing to exchange less of their local currency vs the Rand. The final factor that we will review which is harder to quantify is political stability and risk. Social unrest, frequent government changes and geopolitical tension can create volatility. In recent years political uncertainty has plagued numerous developed and developing countries to varying degrees.
Predicting FX exchange market movements is complex as there are many different players, factors, and market behaviours at play. Local and international factors need to be considered and as with stocks, currencies too get overbought and oversold and the behavioural aspect of investors plays a part. There is no simple answer when it comes to the debate around foreign exchange but in our view the principles of diversification and risk management should, as always, remain at the forefront of investors’ minds.
