Import competing manufacturing companies and associated trade unions plus industrial policy advocates in government advocate pegging the currency at ‘competitive’ levels. Many macroeconomists in the banking sector, Treasury, and South African Reserve Bank are wary of inflationary consequences.
This debate is futile. The scale of capital inflows relative to currency reserves, and a history of failed interventions particularly during the East Asian financial crisis, mean the willingness and tools to engage in such intervention are not available domestically.
Meanwhile the international currency debate rages on, along two axes: the US accuses China of deliberately undervaluing its currency in order to gain export advantage; Brazil and its apparent allies in the BRICS, including South Africa, complain that quantitative easing pursued by the US and other advanced countries deliberately undervalues their currencies for the same purpose.
What is South Africa’s interest in this debate?
The Chinese currency is undoubtedly deliberately undervalued. China’s capital account remains closed, despite recent experimentation with Renminbi internationalization via Hong Kong and, recently, South Korea and Japan. The latter has been partly responsible for the recent substantial reduction of China’s current account surplus, from over 10 percent of GDP at its peak in 2007 to less than 3 percent now. But the slowdown in China’s Western export markets must take some of the ‘credit’ and suggests a reversal once those markets revive.
Until such time as China’s domestic financial system is opened up and the Rmb floated, currency ‘manipulation’ will remain the practice in China. Both may take a long time. The financial sector remains repressed since it is a key pillar in China’s directed finance, export-driven development model. This renders the political economy of reforming the system challenging indeed, notwithstanding the leadership’s stated intentions, as recent political instability in China shows.
Quantitative easing is primarily a response to unique economic circumstances. It has played a key role in stabilising Western financial systems, an essential prerequisite for the hard banking reforms still required. This has calmed the world economy and therefore has been beneficial.
However, since growth in the developed world remains stagnant, in contrast to relatively rapid growth in developing countries, the low interest rate environment has driven a wall of capital into certain emerging countries with liquid financial markets such as Brazil and South Africa. This led to currency appreciation in some cases, thus undermining manufacturing exports. So the US is the main target of Brazil’s ire.
Which of these two situations is of more concern to South Africa?
Quantitative easing is a relatively short-term phenomenon implemented for complex but justifiable reasons. The primary purpose is to underpin economic growth and promote financial stability at an extremely uncertain time in the global economy. If it were removed the consequences for global growth could be very severe indeed.
Since South Africa’s growth and exports still depend substantially on the industrialized world this would definitely not be in our favour. Furthermore, notwithstanding the lingering impact of these policies the Rand has still weakened against the dollar, so it is not obvious that the policy has been particularly damaging to us. Ultimately currency volatility matters more than the level of exchange.
The Chinese currency peg is substantially more damaging to South Africa. To see why, we first need to distinguish the South African situation from the US-China dynamic. US concerns about their bilateral trade deficit with China are blown out of proportion, for two reasons.
First, China is increasingly seen by US elites, and sees itself, as a competitor to the US for geopolitical primacy. The two powers seem to be on a medium-term collision course unless corrective action is taken. So it is no surprise that the currency issue is highly politicised.
Second, the bilateral trade deficit is statistically incorrect, potentially by a large margin. Multinational corporations, many of US origin, drive it. Furthermore, the dominant share of value in the production networks they control is retained in the US, for example Apple’s intellectual property rights, with final assembly taking place in China from components produced throughout East Asia. Final products, such as the iPhone, are exported to the US and show up as Chinese exports – an entirely erroneous view of the ‘processing trade’ underlying the figures.
The South Africa-China trade dynamic is different, again for two reasons.
First, political relations are close; some would argue too close and potentially compromising South Africa’s nascent democracy. Similarly, the African National Congress’ flirtation with ‘state capitalism’ is modeled to a significant extent on their interpretation of the Chinese approach.
Second, trade ties are driven by South African resource exports to China, especially iron ore, and imports of manufactured goods. This is a classic comparative advantage story that this trade wonk approves of. However, it should be of concern to industrial policy enthusiasts advocating minerals beneficiation in South Africa. But they remain remarkably silent on the issue. Furthermore, Chinese manufactured exports to SA contain no SA intellectual property and are not driven by global value chains, meaning China retains the value. Finally, SA manufactured exports compete with Chinese manufactures in third markets, to some extent.
Therefore the Chinese currency peg matters a great deal more to South African manufacturing industry, and undoubtedly provides an enduring competitive advantage.
The interesting question is why those participating in currency debates in South Africa make no public mention of these bilateral issues with China? Given the broader political relationship this is understandable, to an extent, even if it undermines government’s stated policy of promoting manufacturing and growing manufactured exports.
But what explains the silence of the South African business community, notably the manufacturing circle, which is driving the push for devaluing the Rand? Could it be because the manufacturing circle, which favours import protection, does not want to lose its sympathetic ear in the Department of Trade and Industry?
If that is the case, then the next obvious question is whether the emerging consensus to pursue import protection is the right policy to promote the South African manufacturing sector, and economic development in South Africa more broadly?
Personally, I am deeply sceptical but that is a subject for another day.
