Coffee table economics with Anchor

Anchor’s coffee table economics note by Casey Delport will be distributed intermittently and is a collection of Casey’s thoughts and opinions on key economic factors and events shaping markets globally and in South Africa (SA). It is essentially Casey’s thoughts and perspectives on the multiple dynamics at play in the global and local economy.

 

Executive summary  

In this week’s edition, we highlight the following:

  • Speculation about the US dollar’s global position has again come to the fore recently amid increased politicking around the debt ceiling (who could have guessed that Democrats and Republicans would battle to find a middle ground?). However, in our view, the greenback is unlikely to be dethroned as the kingpin of world currencies anytime soon but will likely instead enter a “power-sharing” agreement with other leading global currencies over time.
  • The rand, on the other hand, is facing a far sadder outlook at present, with the recent bout of rand weakness more than just a US dollar strength story. Instead, South Africa’s (SA’s) various idiosyncratic issues (especially rolling blackouts wreaking havoc on the SA economy) are weighing on the local unit. As a result, whilst the strong dollar has dominated in recent weeks, we expect it will give up some of its gains later this year.
  • While a weaker dollar will naturally create a more favourable environment for the rand, for the local bourse, much hangs on the outcome of the National Budget (to be tabled in Parliament on 22 February), and if the government has some form of a credible plan to tackle the electricity crisis via its new-found super powers under the National State of Emergency.
  • Many of the same topics explored in previous years (stretching further back than 2016) were repeated in President Cyril Ramaphosa’s State of the Nation Address (SONA) on 9 February. In addition, whilst this year’s SONA was more realistic and sober in its tone, it did not inspire markets, which typically take a wait-and-see approach to delivery.

 

Dollar Questions … and A Sad SA Rand

Speculation about the US dollar’s position as THE global currency seems to have increased again recently amid growing politicking around the US debt ceiling (unsurprisingly, Republicans and Democrats are struggling to find a middle ground). Discussions over lifting or suspending the debt ceiling could go down to the wire in June, possibly resulting in downgrades from rating agencies and causing significant financial strain in the process. The US has never defaulted on its debt, but even the threat of default could prove disastrous. The country’s first credit downgrade came during a debt-ceiling showdown in 2011.

Read more about the state of the US Economy here.

Regardless of current circumstances (and whilst US politicians will continue to do what they do best – argue), over recent years, there have been inklings of evidence around the declining allure of the US dollar. First up is the position of global central banks. Recent data from the World Gold Council suggest that central banks bought 1,136 tonnes of gold in 2022, worth c. US$70bn. That is almost double the amount of gold purchases seen since the 1950s. Data on the breakdown of currency reserves also show a declining trend for the dollar at c. 60% of total current allocated foreign exchange reserves, compared to over 70% in 2000. Over the same time, the euro proportion has increased from 18% to 20%, and we have seen a particular uptick in recent years for other currencies, not just the fast-rising Chinese renminbi but also the Australian and Canadian dollar. If we consider international lending, US dollar credit to international borrowers has fallen by 2% over the past year – the biggest decline since the global financial crisis of 2008/2009. In comparison, international euro-denominated loans have risen by c. 9% in the past year, while loans in Japanese yen have increased by 10% over the same period.

That said, the US dollar dominates with three times more international loans than the euro. One must also consider that rapidly rising policy rates in the US compared to elsewhere could have made borrowers switch to the euro or the yen. Nonetheless, evidence suggests that the US dollar is creaking a bit as the international currency of choice for international borrowers in the private sector and asset holders such as central banks.

We hold a far more relaxed stance. At this point, we think it unlikely that the US dollar will be ‘usurped’ by another currency, such as the renminbi. Instead, global financial markets are more likely to shift to competing international currencies with the US dollar – the euro and the renminbi, for example, having similar shares. The dollar tends to garner its greatest strength when there is a crisis – and the dollar soars on account of its safe-asset status. But such major crises happen infrequently (despite what we may think given the events over the past three years or so). The rest of the time, the dollar is not in demand but in supply as a vehicle to borrow internationally.

On the other hand, the rand is facing a far sadder state of affairs. Over the last few days (since 13 February), the local unit has sporadically been trading on the wrong side of R18/US$1 for the first time in more than three months. This is as expectations grow that US interest rates may remain higher for longer than previously anticipated – particularly off the back of the recent robust US employment data. Compound this with the 15 February release of a higher-than-expected US inflation rate, and famed investor and market forecaster, Marty Zweig’s mantra of “don’t fight the Fed” starts to feel particularly appropriate once again.

However, this recent bout of rand weakness is more than just a dollar strength story; SA’s various idiosyncratic issues at present are also driving the rand weaker – acting like a wet blanket, if you will, over the local unit. As the SA economy falters, in part due to record levels of loadshedding, the SA Reserve Bank (SARB) has much less scope to hike rates further, which is negative for the rand. If local interest rates are not raised in step with the US, then the rand and local assets such as bonds will lose their appeal to foreign investors, who are on the hunt for good returns. Foreign inflows are crucial to keep the rand stable.

Furthermore, the current increased appetite of the ANC for coalitions with the EFF at a municipal level has also negatively impacted investor sentiment towards SA. Unsurprisingly, the business community fears increased left-wing policies. As it stands, the ANC’s current preferred coalition party is now the EFF, which is likely to push for the adoption of some of its policies by the ANC. Furthermore, over recent weeks business sentiment has been depressed by rolling blackouts, as well as the deterioration of rail and port transport capacity, along with the security of the water supply.

 

The bottom line

The US dollar is unlikely to be dethroned as the kingpin among global currencies anytime soon but will likely rather enter into a power-sharing agreement with other leading currencies over time. With regards to more present dynamics, while the strong dollar has dominated in recent weeks, we do expect the greenback to give up some of its gains later this year. Whilst this would naturally create a more positive environment for the rand, for our local bourse, much hangs on the outcome of the National Budget (to be tabled on 22 February) and if the government has some form of a credible plan to tackle the electricity crisis via its new-found super powers under the recently gazetted state of emergency.

 

A sober SONA dampens the party

In February each year, many South Africans are left pondering the exact purpose of the political extravaganza that is SONA – and let’s be honest, we cannot blame them. In simple terms, the aim of SONA is to put forth a few key areas of policy focus that government deems top priority and how it plans to execute said policy. In recent years, however, SONA has presented a laundry list of policy objectives, some of which have taken many years to implement, while many have remained incomplete for well over a decade. The successful implementation of real reforms has been sparse, and where this has occurred, it has been primarily on paper, with minimal effective implementation given the government’s lack of capacity or resolve. This year’s SONA took place under even tougher economic and socio-economic conditions than previous iterations, many of which are due to decades-long policy inertia, as well as the impact of the COVID-19 pandemic and the implications of Russia’s war in Ukraine. As such, 2023’s SONA was refreshingly sober and realistic, highlighting the ongoing problems SA faces and the hope that the country can overcome these difficulties.

Given the emphasis on the energy crisis, there was, unfortunately, very little detail on other key areas that require urgent intervention. Very little was said about our dysfunctional rail network Transnet, small and medium enterprises (SME) reform, and changes in the telecommunications sector (the Fourth Industrial Revolution has been one of the president’s favoured topics in prior SONAs but hardly featured this year). There was a strong emphasis on the need to ramp up infrastructure spending and speed up progress in improving SA’s water storage capacity (an issue that we know to be one of the president’s central concerns). There has been much criticism over the latest declaration of a national state of disaster due to the failings of Eskom (and thus the government at large – the political memes/cartoons are writing themselves at this point). However, there are some positives to be drawn from this, largely around the fast-tracking of cumbersome bureaucratic processes that have held back Eskom’s coal plant maintenance operations. It would also be beneficial if the state of disaster allows Eskom and municipal power entities to shield hospitals as well as water and sanitation facilities from blackouts. Still, energy experts have generally argued that most of the initiatives central to the National Energy Crisis Committee’s (NECOM’s) plan can be implemented without the state of disaster framework. There are concerns that (as was famously the case during the height of the COVID-19 pandemic) new patronage opportunities will emerge as the framework is implemented. If anything, the announcement of the national state of disaster in the president’s SONA has provided a convenient political smokescreen for the ANC and government, as it can now be claimed that past failures can be adequately addressed with this framework in place.

 

The bottom line

Many of the same topics explored in previous years were repeated in 2023’s SONA, stretching back further than 2016. Whilst this year’s SONA was comprehensive and positive in its messaging, it did not inspire markets, which typically take a wait-and-see approach to delivery. It is no secret that government has numerous plans, insufficient delivery and a poor track record overall, making the state of disaster seemingly necessary to resolve the electricity crisis. However, SA’s slow and largely poor policy implementation has been the key determinant of our weak economic growth rate over the past decade or so, thus exacerbating unemployment and inequality. As such, after years of costly expenditure on electricity and poor results, markets fear additional costs and debt for the state and a deterioration of state finances, negatively impacting SA’s bond market and weakening the rand.

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