S.Africa to See Moderate Economic Recovery, Rand to Depreciate
South Africa (S.Africa) is projected to see a moderate economic growth recovery in 2021 amidst pressure facing the local currency, rand, which is also expected to depreciate in the short term, albeit, slightly, a new report from Fitch Solutions says.
In the next three to six months, analysts at Fitch Solutions expect the South African rand (ZAR) to average ZAR14.52 to a United States dollar in 2021, which is a revision from the previous forecast of ZAR15.40.
According to the report, the new forecast pencils in an 11.8% appreciation relative to the average in 2020 when the ZAR, like many emerging markets currencies, was negatively affected by risk-off sentiment and lost 13.9% of its value against the dollar.
In 2021 however, the rand has been one of the strongest-performing emerging market currencies year to date, gaining 7.9% against the dollar in the currencies markets. Fitch Solutions said there are a number of factors that have been driving rand gains year to date, including improved global risk appetite, terms-of-trade gains and the ZAR’s previous undervaluation.
“Despite these factors, however, we believe that further substantial gains are unlikely and that the ZAR is likely to depreciate from the current spot level of ZAR13.52 per dollar to end the year at ZAR14.60, marking a 7% depreciation from spot levels but broadly in line with the year to date average of ZAR14.62 for a dollar”.
The report said this view is underpinned by both the technical picture and economic fundamentals. In technical terms, the rand will face a significant area of resistance around the ZAR13.00 a dollar area and momentum indicators such as the Relative Strength Index (RSI) are overbought.
The overbought position on rant came on both a daily and weekly basis following substantial appreciation of the unit since early 2020, suggesting a limited room for additional appreciation over the coming months, and the risk of a reversal.
“We also expect economic fundamentals to weaken in the second half of 2021 which will weigh on sentiment. Moreover, while commodity price gains have helped to support commodity-linked currencies such as the rand, we believe that most of the gains in commodity prices are behind us this year”, Fitch Solutions added.
Additionally, the report added that the continued slow progress in the rollout of South Africa’s Covid-19 vaccination programme, as well as a likely uptick in strikes, will weigh on economic activity.
As of end-May, only 1.1% of the population had received at least one dose of vaccine, and the government announced the extension of the nightly curfew and limits on the number of people at gatherings in an attempt to slow the number of positive cases.
“We expect that increased industrial unrest in the second half of 2021 will also weigh on economic activity”, Fitch analysts projected. As part of fiscal consolidation efforts, the government is seeking to cap public service wage increases at 1.2% annually over the next three years, against average inflation of 4.2% year on year.
Negotiations on the wage deal are ongoing, but analysts expect strong union resistance to the proposals and anticipate strikes and demonstrations over the coming months.
“Amid a relatively stable short-term outlook for the US dollar, we anticipate that strikes and the slow vaccine rollout, and the risks they pose to near-term growth, will weigh on sentiment, and ensure mild depreciation of the rand”, it added.
Over the long-term horizon, analysts at Fitch Solutions revealed the expectation that the rand will trade in a gradual weakening trend, to average ZAR15.01/USD in 2022, and marking a 3.4% depreciation relative to 2021 levels, reflecting weak growth and fiscal fundamentals.
Analysts expect real gross domestic products (GDP) growth to weaken to 2.4% in 2022, from 3.5% in 2021 and remain well below the emerging market average of 4.9%, given persistently high unemployment – the jobless rate rose to an all-time high of 32.6% in Q1-2021 – and continued weakness in the tourism sector.
A deep dive into the country’s economic performance has raised concern about growth expectations following the increasing spread of the covid-19 delta variant. It is noted that the country’s fragile fiscal position will dent investor demand for domestic assets, sustaining downward pressure on the rand.
In the long term capped at 24 months, Fitch Solutions expects the rand to trade in a gradual weakening trend, to average ZAR15.01 a dollar in 2022 and marking a 3.4% depreciation relative to 2021 levels.
“We expect real GDP growth to weaken to 2.4% in 2022, from 3.5% in 2021 and remain well below the EM average of 4.9%, given persistently high unemployment – the jobless rate rose to an all-time high of 32.6% in Q121 – and continued weakness in the tourism sector”.
The government’s forecast deficit of 9.3% of GDP in FY21/22 and 7.3% in FY22/23 outlined in its February budget statement is largely dependent on its ability to implement the major reduction in the public wage bill.
Given that unions are a key support base for the ruling African National Congress, and that the party will want to maintain support in municipal elections due in Q4-2021, analysts are expecting that the government will ultimately agree to a more generous – albeit still below inflation – wage settlement.
With the government unlikely to be able to achieve its fiscal targets market sentiment towards the country is likely to remain cautious. In addition, analysts expect the South African Reserve Bank (SARB) to raise its repo rate in the second half of 2021, but also noted that the increase is likely to be a fractional 25 basis points – bringing the rate to a still-low 3.75%.
Analysts forecast a deficit of 10.1% in FY21/22 – and real GDP growth likely to be subdued, forecast growth of just 2.4% in 2021, well below the emerging market average of 6.4%.
S.Africa to See Moderate Economic Recovery, Rand to Depreciate
However, the projected increase is not expected to cause a significant rise in capital inflows since the increase in real interest rates will be minimal. However, it is expected that the currency’s ongoing carry trade appeal and the currency’s slight undervaluation will contain the pace of devaluation.
The report noted that real yield spreads with the US remain wide offering ongoing carry appeal, particularly as 2022 will see the SARB raise interest rates faster than what we expect in the US but analysts see no interest rate hikes.
Despite the sharp rally in recent months, the rand remains about 4% undervalued on a real effective exchange rate basis relative to its 10-year average which may help to limit the pace of depreciation.
The report highlighted that commodity prices will remain generally elevated over the course of 2022, which should also continue to provide some support to the rand and limit it from a sharp pace of depreciation.
Set For Moderate Growth Recovery
South Africa, real gross domestic product expanded by 4.6% on a seasonally adjusted and annualised quarter on quarter basis in Q1-2021, the country’s statistics office shows. However, GDP contracted by 2.6% year on year.
The expansion in Q1-2021 marks the third consecutive quarter of quarter on quarter growth after the economy expanded by 67.3% in Q3-2020 and a downwardly revised 5.8% in Q4-2020, economic data shows.
In expenditure terms, growth was driven by private consumption, which increased by 4.7% quarter on quarter in Q1-2021, contributing 3.0 percentage points to headline growth.
Fitch Solutions said this reflects the positive impact on consumer confidence of the easing of social distancing rules to ‘Level 1’ – the lowest level of restrictions – in February, after the second wave of Covid-19 infections in December and January.
Meanwhile, due to expansionary stance moves, the Government consumption increased by 1.0%, contributing 0.2 percentage points to growth, as the government continued to provide support to ameliorate the impact of Covid-19.
However, net exports subtracted 7.0 percentage points from growth, largely reflecting a 26.5% increase in imports as consumer and business confidence recovered. In gross value-added terms, the mining industry grew by 18.1% in Q-20121 amid increased demand for and production of platinum group metals, iron ore and gold.
The finance sector expanded by 7.4%, as increased corporate activity drove demand for financial intermediation, real estate activities and other business services. In addition, the manufacturing industry activity increased at a rate of 1.6%.
“We expect real GDP to expand by 3.5% over 2021 as a whole, as against a 7.1% contraction in 2020. Purchasing managers’ index data point to the economy gathering momentum in the first months of 2021”.
Recall manufacturing PMI jumped from 50.9 in January to 57.4 in March, and 57.8 in May, indicating improving conditions. “There will be a substantial year on year rebound in growth in Q2-2021 particularly, reflecting base effects from the depth of the 17.5% contraction a year previously.
South Africa will also benefit from a more supportive global environment:
“We expect global GDP to expand by 5.7% in 2021, after a 3.4% contraction in 2020, and more rapid growth – in China particularly – will sustain demand for South Africa’s commodity exports. However, still-high unemployment and the slow pace of the government’s vaccination programme will weigh on consumer confidence and households’ spending power”, the report added.
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S.Africa to See Moderate Economic Recovery, Rand to Depreciate
