EVERY dinner conversation nowadays, every meeting, every New Year’s greeting, is cluttered by a discussion on the exchange rate — our weakening rand — particularly if you hang around upmarket shopping malls.
"Have you seen the rand?!" they almost shriek, "Oh My Gosh!" The rand/dollar exchange rate has depreciated 40%-50% in the past year (depending on when during the day you’re looking and how illiquid the market is then), so I guess that does focus the mind.
Should we care about the exchange rate? Hell yes, but for the right reasons. Exchange rates, and what determines them, is at once a simple and complex topic. The 101 explanations have to do with relative outlooks on inflation (higher expected inflation, lower exchange rate), interest rates (higher expected interest rates, higher exchange rate), relative gross domestic product growth, and so on — economics.
The more complex issues are relative indebtedness (risk and cost of having to raise future capital), country specifics and their cycles (dominant characteristics of a particular economy such as its dependency on oil or precious metals prices) and government economic policy. Some of these factor into the country risk premium, which has an effect beyond economic variables on the ruling exchange rate — the extra we have to pay for the perceived risk of investing here.
Then there’s the purchasing power parity theorem, which exposes the risk or discount implied by the exchange rate when compared with the relative cost of real goods. In essence, after exchanging money, do you get more or less of the same goods produced in one country versus another? A useful academic debate, but seldom something you can do anything about in practice. Finally, to the "Big Mac" or hamburger index (invented by The Economist 30 years ago, it compares the purchase price of a basket of goods across countries). We find ourselves in the company of Russia and Ukraine when it comes to this measure of how much weaker our currency is than it should be.
And so the lament continues, but should it?
The US has seen the dollar strengthen (on an indexed basis against a weighted basket of currencies) more than 30% since 2011, with the real spurt starting in 2014 as the Federal Reserve first began anticipating a reversal of its loose monetary policy. So now, the mighty US has been lumped with a strong currency and it can say goodbye to competitive exports. Is that what we want?
The merits of either a so-called weak or strong currency go beyond being simply either bad or good. It depends what your local mix of outputs is (at those after-dinner discussions, it’s more about how much you need to go skiing in Switzerland or shopping in New York).
If you are an oil-producing country that is not a low-cost producer globally or has been living a life of unrealistic exorbitance funded by a $110/barrel oil price, then life looks bleak (ask the Russians). Oil is now cheaper than milk.
Amid all of this, there has been a currency war going on, with most major players actually trying to weaken their currencies. However, as soon as the free money showed signs of drying up, the markets started plummeting.
There are other fundamental reasons, but the latest rout has a lot to do with the evaporation of near-zero cost cash. It is the cold turkey we’ve all known would come when they took away the euphoriant effects of the cheap money amphetamines they were doling out across the world — indiscriminately, recklessly and without any need to ensure proper doses or monitor the intended cause-effect of the drugs. It was fun while it lasted and asset inflation ruled.
What should we invest in now? Until value (as determined by high dividend yields and low earnings multiples) returns for the equity markets (it may already have for some counters) investors will be looking to other asset classes. Corporate bonds (blue chips) are going to be hot stuff. Huge oversubscription resulted in the initial size of the AB InBev bond issue just about doubling and, even at these relatively low (historically) interest rates, a recent issue of 10-year US government debt was also enthusiastically taken up.
Yield and safety rules, for now.
I can’t help but wonder where exchange rates and interest rates would settle if the central banks stopped interfering completely. That will never happen (nor should it — we need banks of last resort and occasional volatility management) but I am not convinced the world wouldn’t be a better place if the merits of the markets were given more space. I certainly hope we’re not spending precious reserves defending our currency.
So, how should we feel and what should we do about our apparently over-weak currency and the commodity slump? We know, for sure, that moaning won’t help and that hoping for a speedy return to high prices for commodities will prove futile.
We have to change course. We should have done so some time ago, but what’s the point in lingering on that? There’s no time like the present. A country’s relative economic prosperity (or absence thereof) is the composite outcome of how we choose to mix our local ingredients.
First of all, we must import less — simple, blunt but effective. At this exchange rate, we have to, have to, focus on import substitution. Stop importing wood from Brazil. Stop importing milk from Ireland. Stop importing furniture from China, made from our wood. For goodness’ sake, for all of our sakes, if we can do it here, then let’s damn well do it here — better still, let’s make it worthwhile for others to invest to do it here.
Getting to be the low-cost producer (particularly where we are naturally endowed with the resource inputs) shouldn’t be that difficult. It may require some structural changes and a rewrite of the rules of economic sharing among the factors of production, but in the end, value will be created and retained locally.
There is far greater merit in sharing profits than subsidising losses, in the aggregate, for the economy. Increased gross domestic product per capita trumps population subsidy all the time and over time.
Play to our strengths — but know that they change from time to time. You have to play to the strengths of the day (and those expected for tomorrow). Ask the English cricket fans how cheap it is to holiday here, particularly the Barmy Army, who must love our cheap beer.
Tourism is obvious — make it easier to come here, not more difficult. More downstream beneficiation, more local production. We know what is required.
I can’t fathom what stops us from doing this. Lack of confidence in the local outlook? Well, if we all start doing it together, others may believe us, and that will attract the capital we need to get onto firm ground, to get out of the hole.
We won’t win anything by fighting among ourselves.
• Barnes is South African Post Office CEO