Winning the battle but losing the peace in a currency war.
One could be forgiven for being somewhat confused by the verbal fall-out of this week’s turmoil in the currency and stock markets (see Moneyweb analysis here). For some years now, market commentators have been talking about a currency war in which countries benefit from a weakening of their currencies to reduce their export prices and maintain market share in slack global demand. In essence it means simply that a weakness is actually a strength.
So with the rand falling to new lows these past few days, surely we could be claiming victory in a currency war? The problem lies first with terminology. An exchange rate is nothing more than a price, and lower prices are not always a bad thing or a reflection of intrinsic weakness. Decades ago, I tried to explain this to viewers on one of my television programmes, when a decline in the Rand against the dollar was caused by a strengthening of the dollar globally, and not an inherent weakness in the Rand. A few days later, a cartoonist of a daily newspaper depicted a boxing ring with a muscular dollar pitched against a puny Rand. I was in the Rand’s corner trying to assure him that it was not he that was so weak, but the dollar that was so strong.
I have always felt it helpful to think of exchange rates as prices, rather than a true reflection of the underlying strength or weakness of the economy it is based on. This is especially true when a price or an exchange rate can be subjected to a multiple of forces unrelated to domestic affairs. These include the trading performance of other major currencies and massive market speculation in financial instruments. Any less significant instrument such as the South African Rand becomes exceedingly vulnerable and subject to wild swings.
It is difficult to avoid being parochial and blaming domestic policies when these events occur. This is highly understandable, reminiscent of the time when extreme weather was linked to women wearing bikinis in public for the first time. (That really dates me!). Many of the concerns raised in response to the performance of the Rand and our stock market fell back on fundamental economic flaws, such as chronic trade deficits, labour inflexibility, power outages, public debt, and government and SOE inefficiencies. They have been there for many years and have long since been discounted in market assessments.
But to be clear, these flaws obviously increase vulnerability to market sentiment. The tragedy is that, as the last year and a half has shown, with our weak competitive base we cannot take advantage of a cheaper Rand. Even if we win the war, we simply cannot secure the peace. We could not have had a clearer example of this than the steel industry wanting import tariff protection despite a halving of the Rand’s value in the past five years. That may be a special case because of Chinese dumping, but despite all the advantages that came our way since being embraced by the global economy in 1994, we have remained inexplicably insular and inward looking and in many respects are performing worse than we did with a siege economy prior to that. It is an extremely difficult position to maintain in today’s global economy.
Until recently a decline in the value of the Rand would elicit a typical two-handed economist response – on the one hand it would boost export earnings, discourage imports and help economic growth, but on the other hand it would create inflationary pressure by making essential imports more expensive. Today assessments are mostly negative indicating a growing acceptance that we have structurally become a net importer – a situation exacerbated by an end to recurring commodity booms.
Our failure to become a significant exporting nation boils down to something I wrote about before – an inability to see global markets as an opportunity to make a contribution to others; something that we owe, rather than that they owe us. You can never bring your needs and wants to the marketplace – only what you can offer. We seem to have extended an incapacitating domestic sense of entitlement to the world arena. Until we can reverse that, both at home and abroad, no amount of grand value-adding ambitions will be realised.
Another important issue is that market turmoil ultimately has a life of its own. We seek fundamental, logical, real and tangible causes for behaviour that in many respects is delinked from reality. As economist Dawie Roodt has pointed out in a radio interview, stock markets have been behaving irrationally globally for some years now, given their bullish nature in a climate of low economic growth in most countries.
All of this has been based on the massive growth of financial services and the explosion of debt in the last 3 decades. In the U.S. for example the trading of securities in a year is nearly 130 times the value of underlying IPO’s and secondary offerings -- $32trn to $250bn. It’s also been estimated that the size of trading in financial instruments including derivatives equals some 60% of Gross World product.
The only appropriate analogy I can think of is that this is a case of the tail wagging the dog. When the dog whimpers on events such as disappointing GDP figures, the tail wags it, not only hurting the dog but swinging it even further. It’s been mooted for some time now that the financial and property asset bubble created from unprecedented debt levels has to burst, and that a return to some form of cleansing which should have happened after 2007/2008 is inevitable.
Perhaps my hope that it would not happen in my time is being dashed.