Johannesburg - The slippery slope on which the economy finds itself became more worrying yesterday when the rand breached a key psychological barrier of R11 against the dollar.
In intraday trade it hit R11.0185 – its weakest level since February. By 5pm it had pared its losses and was bid at R10.9342, down 2.12c from the same time on Tuesday.
In its reaction to Tuesday’s release of current account deficit, ratings agency Moody’s Investors Service said the rand could come under further pressure in the absence of a plan to reduce the deficit.
The next critical level could be R11.20, then R11.39, Standard Bank said in a note.
“The rand has finally broken out of the long-term range of R10.50 to R10.80 convincingly,” the global markets research team at Rand Merchant Bank (RMB) said.
The slide will feed inflation, which will now complicate the Reserve Bank’s task of contain ing price pressures while at the same time fostering growth.
The reaction from ratings agencies to the current account deficit has been sanguine, but it has not been lost on anyone that the deficit could eventually catalyse another sovereign rating downgrade.
Moody’s said the extent of the widening of the current account deficit to 6.2 percent of gross domestic product (GDP) in the second quarter should not come entirely as a surprise.
The trade, income and net transfer deficits had widened, meaning the current account deficit was likely to remain more than 5 percent of GDP this year.
“Unlike most other countries with elevated net current account deficits, a large portion of South Africa’s current account deficit is usually financed by portfolio inflows denominated in rand – by non-resident purchases of local currency government bonds and equities,” Moody’s said.
“This was again the case in the second quarter, since the financing of the deficit was two-thirds covered by portfolio flows and other transactions.”
The current account deficit and budget deficit are the headaches Finance Minister Nhlanhla Nene will face when he presents his first medium-term budget policy statement next month. He will have to try to convince the markets and sovereign rating agencies that he has a credible plan to handle them.
John Cairns, a market analyst at RMB, said in a note the 6.2 percent deficit was a frighteningly big hole, even if it was distorted by recent strikes and even if it was set to improve in the coming quarters.
“Quite simply, the economy is not rebalancing, implying more rand weakness and/or interest rate hikes might be needed. There is a hole in the bucket and it needs to be fixed,” he said.
Gina Schoeman, an economist at Citi, said on Monday: “With a greater need for revenue collection and [with] expenditure cuts unrealistic, tax changes seem inevitable at some stage in our view.
“It is interesting that a rise in the 14 percent VAT rate appears to be the most generally accepted tax change, even if a necessary evil, and throughout our [tax review committee] meetings it was only trade unions who seriously opposed it. That said, we believe such opposition may soften should VAT be structured to alleviate the burden of the tax on low-income households via increased zero rating and/or a dual VAT rate.”
The chief economist at Econometrix, Azar Jammine, said last week that government statistics for July showed a fairly substantial decline in the growth of government revenue and an increase in the growth of government expenditure. The result was a widening fiscal deficit compared with the same month last year.
He said cumulative growth in government revenue for the first four months of the 2014/15 fiscal year now came in at just 6.4 percent, well short of the budgeted growth rate for the full fiscal year of 8.8 percent.
“In contrast, the undershoot of cumulative growth in government expenditure compared with budget is much smaller. As a result, if one extrapolates these growth rates to the full fiscal year, one ends up with a fiscal deficit for the whole of 2014/15 of 5.5 percent of GDP, substantially greater than the official budget deficit of 4 percent of GDP.”
Also weighing on the rand were geopolitical tensions in Ukraine, which boosted the dollar and weakened emerging market currencies.