Rand feast or famine in 2010–2013

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By Cees Bruggemans, Chief Economist of FNB.

After gaining 22% on real trade-weighted this past year, from undervalued to overvalued, the Rand is not going to stand still during 2010-2013.

But what will it be, feast or famine, and in what order?

It doesn’t help the order of battle keeps changing, making it difficult to foresee the next move.

Only recently the Euro was a bastion of strength, the US consciously favouring a weaker Dollar through low interest rates and bond buying.

This was Rand supportive, drifting back nearer 7:$.

Then the Eurozone proved to have inherent flows. Not only was Club Med Europe debt distressed, but some European banks also proved vulnerable.

The whole European Project became deeply questioned, something many skeptics had in any case done from the beginning, claiming you can’t have a monetary union without a political/fiscal one, while the various European regions were also structurally unfit to be joined together.

Down plunged the Euro, with the associated loss of risk appetite reinvigorating safe havens, especially US bonds. Up went the Dollar.

Sterling suffered as its fiscal deficit reached wartime levels, with growth undermined.

Since 3Q2009 the Rand became largely directionless against the Dollar in 7.20-7.80 territory.

In contrast, the Rand’s ascent against Sterling and Euro continued, reaching 10.90 and 9.25 respectively.

Meanwhile, US attempts to get successful Asia to revalue had come to a standstill in mid-2008 when global shock first reached full intensity.

After much criticism and successful crisis exit in 2009, something the Euro troubles apparently did not ultimately jeopardize in Chinese eyes, Yuan ‘floating’ resumed very slowly from this month, taking much of Asia with it.

For the Rand this means minor downward adjustment against Asian currencies, also in coming months.

Going forward, a number of propositions offer themselves regarding Euro and Dollar.

Though the US seems institutionally the more stable story at present (banks sorted out, growth reviving if already moderating), it isn’t as if Europe is necessarily going to be a sinkhole forever, though optimists and pessimists differ.

It creates a simple two-step scenario proposition.

The Euro could have more downside shortly if its troubles have further to run (distressed countries, insolvent banks, doubtful ECB, squabbling politicians disagreeing on fiscal and structural growth-oriented reforms).

In that case expect to move near Dollar/Euro parity and Rand/Euro nearer 7.50-8.50.

If European reform advances well, with further cleanups of banks and countries successfully undertaken, the right political decisions and European growth not falling away completely (with renewed relapse into recession averted), the Euro need not sink much further.

With interest rates low in both US and Europe, and liquidity support remaining high through next year, this could favour renewed global risk appetite, capital flows into emerging markets and higher commodity prices.

Further Rand firming could reach 6-7:$ and 8-9:€.

If, however, this transitional period witnessed much uncertainty because of unresolved crisis issues (sovereign debt haircuts, bank defaults, growth relapse), the resulting “strapless bra” (suspended animation) condition might continue, keeping safe havens (US, Germany) fashionable and global risk appetite subdued.

This could keep Rand directionless near 7-8:$ and 9-10:€.

If a new crisis were still to erupt with full force, with the BoE suggesting a European sovereign debt default potentially offering a Lehman moment, revisiting the hell of 4Q2008, the Rand could be subjected to sudden capital reversals and massive decline against Dollar and Euro towards 11-15.

That would probably result in (temporary) higher interest rates for us (replaying 2002).

But if a crisis doesn’t erupt, the world will eventually approach crisis ending and start of policy normalization in major countries.

If the Fed were to start earlier (late 2011 or early 2012), it could mean the Dollar to restart for higher levels from 2H2011 onward.

If worth +10%, it could lead to the Rand topping 8:$ in 2012 and 9:$ in 2013.

The ECB won’t necessarily lag the Fed that much, depending on European reforms and how much the US growth story really leads.

Still, the Rand could top 10:€ by 2012 and more by 2013 if things work out.

Except that throughout such Fed/ECB policy normalization global growth should be performing adequately, commodity prices should be zippy, and capital flows may continue favouring higher risk appetite.

That could keep the Rand firm-like even into 2013.

The wildcard option is for our policymakers to shift fundamentally, favouring a weaker Rand.

Many things could happen here, none of it clearcut. It is for now an outside chance but feeds Rand uncertainty.

In summary, when discounting another global crisis or a major domestic policy shift as low-probability tail risk for now, current prospects suggest continuation of Rand/Dollar for 2010 at 7-8 and Rand/Euro at 9-10 (the global ‘strapless bra’ condition continuing).

Some Rand firming is still possible into 2011, followed by mild easing in 2012-2013, but makes for relatively narrow trading ranges of 7-9 Rand/Dollar and 9-11 Rand/Euro.

Only shortly ending the global ‘strapless bra’ condition could rocket the Rand firmer, while shock events or policy shift could plunge the Rand weaker.

Source: Cees Bruggemans, FNB, June 28, 2010.

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