The Rand’s freefall since 1994

The South African rand depreciated significantly over the last thirty years, which can be partly explained by the country’s current account deficit.

In May 1994, when the new democratic government took power, the rand was trading at R3.61 to the US Dollar.

Fast forward 29 years, and the local currency weakened to R18.40 to the greenback. Apart from strengthening in the early 2000s, the rand experienced a gradual decline.

A metric that many economists use to explain long-term currency depreciations is a country’s current account balance over time.

The current account forms part of a country’s balance of payments, a document reporting the net inflow or outflow of cash from transactions with the rest of the world.

The current account reports all global transactions, like exports and imports, net cash payments from foreign investments, and net transfer payments to foreign countries.

The capital account shows the change in South African assets held in foreign countries compared to foreign countries’ assets held within South Africa.

A current account surplus means a country received more money from other countries in trade than it paid to other countries.

It also means it has cash reserves that can be lent or invested to offshore economies, increasing foreign assets held by South Africa.

A current account deficit means a country paid more for imports and other trades to foreign economies than it was paid.

It means the country would require additional funds from foreign economies and reserves. This decreases the country’s assets and increases debt.

Since 1995, South Africa has only had four years where it enjoyed a current account surplus. It means that South Africa has paid much more to foreign economies than it received from them.

This extended period of having current account deficits negatively impacted the rand’s valuation.

As South Africa keeps spending more in foreign markets than what foreign economies are spending in South Africa, the demand for foreign currency increases relative to the rand.

As the demand for foreign currency increases, the value of the foreign currency increases relative to that of the rand.

The current account deficits need to be financed by foreign loans. The financing, therefore, creates an additional net outflow of cash to foreign economies aiding in the demand for foreign currency.

Extended periods of this dynamic also impact a country’s debt levels and credit ratings, further lowering domestic currency demand as uncertainty increases.

The charts below show South Africa’s current account and the value of the rand over the last thirty years.

This article was first published by Daily Investor and is republished with permission.

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The Rand’s freefall since 1994