Trouble ahead for the rand

 ·25 Jul 2023

The rand is looking set for a tough week ahead, with US rate hikes likely to weaken the local currency.

The rand has been one of the worst-performing major currencies in the world and reached a record high of nearly R20.00/$ in May.

The rand has, however, made a serious comeback and currently stands at R17.76/$. This is still weaker than the start of the year but marks a substantial improvement from the record low recorded two months ago.

Recent economic data has also been broadly positive, with Consumer Price Inflation dropping from 6.3% in May to 5.4% in June – which is in the South African Reserve Bank’s (SARB) target range.

With inflation cooling, the SARB’s Monetary Policy Committee voted to keep the repo rate at 8.25% after ten consecutive rate hikes.

Although a pause in the rate hike cycle should have weakened the rand – as investors look for the greatest possible returns on their investment, the rand remained below the R18.00/$ mark.

ZAR/US Dollar


However, the US Federal Reserve will make its interest rate decision this week, and the likely hike will probably hurt the rand.

Last month, the Fed paused its interest rates after ten consecutive rate hikes as it wanted to see where inflation was heading.

The CPI in the US dropped to its lowest level in two years, but the core CPI rate, which excludes food and energy, still jumped by 4.8% year-on-year. CNBC said that the US policymakers have remained committed to bringing inflation down to the Fed’s 2% target.

According to the CME Group Fedwatch tool, there is a 98.9% chance that the Fed will hike interest rates by 25 basis points, which will bring the target Fed Funds rate to between 5.25% and 5.5%.

The increase in interest rates will likely see the dollar strengthen, damaging the rand’s recent gains.

“(A) hawkish Fed could see (the dollar/rand exchange rate) snap higher,” Rand Merchant Bank said.

Positive signs coming

However, the Fed could keep interest rates on hold following the likely hike this week.

“The Fed has communicated its willingness to raise rates again if necessary, but the July rate hike could be the last — as markets currently expect — if labour market and inflation data for July and August provide additional evidence that wage and inflationary pressures have now subsided to levels consistent with the Fed’s target,” economists at Moody’s Investors Service said.

“The FOMC will, however, maintain a tight monetary policy stance to aid continued softening in demand and consequently, inflation.”

This sentiment was shared by Investec Chief Economist Annabel Bishop.

“Lower US inflation figures, particularly core inflation measures in the US, will reduce the upwards pressure on the US interest rate hike cycle, although the Fed is likely maintaining hawkish communications to contain inflation expectations,” Bishop said.

In addition, following the interest rate pause by the MPC last week, the SARB governor Lesetja Kganyago said that interest rates in South Africa have not peaked.

“Further than this, it depends on what happens to inflation. It depends on the data and risks,” he said.

Although further hikes will likely hurt consumers more, it will likely strengthen the rand as its interest rates increase while the dollar’s remain on hold.

However, Bishop – who accurately predicted that the SARB would hold interest rates – said that the SARB would likely hold rates where they are for the rest of the year, marking an end to the rate hiking cycle.

“Looking forward, South Africa’s forward rate agreement (FRA) curve has not factored in an interest rate hike for July – not even a 25bp lift. No hikes are expected for the rest of this year either, tying in with our expectation of no more hikes in the South African interest rate cycle,” Bishop said.

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