The best and worse case scenario for the rand – and what it would take to make it a reality
The rand remained under pressure on Thursday (25 May) ahead of the South African Reserve Bank’s (SARB) Monetary Policy Committee (MPS) announcement on interest rates.
The Reserve Bank will announce its decision on rate hikes in the country at 15h00, with markets anticipating a sizeable hike of 50 basis points. However, some economists see room for a lower hike of 25 basis points, given better-than-expected inflation numbers posted on Wednesday.
The rand was trading over R19.30 to the dollar in afternoon trade, and markets await the decision.
According to Investec chief economist Annabel Bishop, foreign investor sentiment towards South Africa remains extremely negative – something that contributed to the rand tanking to its lowest point on record last week at R19.52 to the dollar.
Sentiment is being driven by the continued crisis around the electricity supply, with warnings of stage 8 load shedding being implemented in the coming months rife.
This is compounded by a severe lack of plan or progress being made to boost electricity supply this year, Bishop said.
However, markets are also being driven by external factors, she noted, adding that concerns about a recession in the United States and China nearing a fiscal cliff amid a weak recovery also contribute to a risk-off sentiment.
Bishop noted that a 25 or 50 basis point rate hike on Thursday should aid the rand, but said an even bigger hike – 75 basis points or more – would be needed to return any stability to the currency.
“While we expect a 50bp lift, higher interest rates weaken the economy, along with substantial electricity and water shedding capacity and very weak rail and port capacity, all of which is negative for the rand and has seen the probability of the ‘lite down case’ rise.”
The economist outlined several scenarios for the South African economy and where the rand would go in each. Each scenario comes with a percentage of probability, indicating how likely each is to play out.
As it stands, the best outcomes for South Africa are extremely unlikely at around 1% probability. The probability for a downside scenario to play out, meanwhile, is almost on par with what Investec sees as the baseline for the country (42% vs 46%, respectively).
Worryingly, the worst-case scenario has a 10% probability rating attached – indicating that things are far more likely to get worse for the economy than get better. However, that does not mean there is no hope.
“Looking forward, interest rates are expected to fall next year in South Africa, if not by Q4.23 already, while inflation is likely to be lower in the second half of this year compared to the first half, and fall over 2024,” Bishop said.
“Economic growth, while likely stagnating this year, is expected to lift successively over the next few years at an accelerating pace as renewable energy increasingly replaces Eskom’s falling production, and adding to fixed investment growth.”
This is where the rand could be heading, based on Investec’s scenarios:
Extreme upside
- Probability: 1%
- Rand movement: Averaging R16.60 by the end of Q2, ending the year at R15.50
- Conditions:
- Strong economic growth (3% to 5% in 2023 then 5% to 7% in 2024)
- Good governance
- Growth-creating reforms
- Strong property rights
- No nationalisation or expropriation without compensation
- High business confidence and investment growth
- Substantial FDI
- Fiscal consolidation
- Subdued domestic inflation
- Favourable weather conditions
- Strong global growth
- Risk-on sentiment
- Commodity boom
- Rapid upgrades to credit ratings to investment grade
- Short greylisting
- Quick transition from fossil fuels to renewables
Upside
- Probability: 1%
- Rand movement: Averaging around R17.20 by end Q2, moving to R17.00 by the end of the year
- Conditions:
- Economic growth lifts towards 5.0% year on year
- Rising business confidence and investment
- Structural constraints eroded
- Strong global growth
- Risk-on sentiment
- No nationalisation or expropriation without compensation
- Low domestic inflation
- Increased privatisation
- Credit rating upgrades on fiscal consolidation
- Markedly lower borrowings
- Substantial transition from fossil fuels to renewable energy
- Greylisted for less than 18 months
Baseline
- Probability: 46%
- Rand movement: Averaging 17.95 by the end of Q2, moving towards R17.20 by the end of the year.
- Conditions:
- Economic growth lifts towards 3.0% year on year
- Market sentiment neutral to positive
- Rand stabilises
- Inflation is impacted by weather conditions, particularly food prices
- Slow move away from fossil fuels
- Modest mitigation of climate change
- Russia/Ukraine war eases
- Little to no expropriation without compensation
- Temporary greylisting
Lite downside
- Probability: 42%
- Rand movement: Averaging R18.90 by the end of Q2, moving toward R19.00 by the end of the year.
- Conditions:
- Same international environment as the base case
- Domestic business confidence depressed
- Substantial electricity and water shedding
- Very weak rail capacity
- Civil and political unrest
- Little investment growth
- Swing toward left-leaning policies
- Recession
- Temporary increase in state borrowings
- Risk of credit rating downgrades, which occur later
- Expropriation of private sector property, but very limited
- High inflation on unfavourable weather conditions
- Little transition to renewables
Severe downside
- Probability: 10%
- Rand movement: Averaging R19.30 by the end of Q2, moving toward R20.00 by the end of the year
- Conditions:
- Lengthy global recession
- Global financial crisis
- ANC/EFF coalition in 2024
- Widespread, severe services load shedding
- Severe civil and political unrest
- Government borrows from wider sources
- SA credit rating downgrades to B, and eventually CCC
- Failure to transition to renewable energy
- Insufficient measures to combat climate change
- Very high inflation on very adverse weather conditions
- Full implementation of expropriation without compensation
- SA is blacklisted
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