By Dr Roelof Botha, Economic Advisor to the Optimum Group

Unlike March, hardly any divergence in the performance of key global currencies against the US dollar occurred during April, with only the rand and the Chilean peso managing to strengthen against the greenback (out of the 18 currencies of key emerging market and high-income countries tracked by Currency Compass, published by Exchange for Free). In April, the Japanese yen was hardest hit, depreciating by almost 4%, with several South American currencies losing more than 2% of their value.

During the first week of May, South Africa’s currency performance has been even more impressive, leaving all the world’s key currencies in its wake. Between 24 April and 8 May, the rand strengthened by 3.6% against the US dollar, swapping places with the Chilean peso, which had to settle for the silver medal.

Exhibit 1 | Selected currency movements against the US dollar between 24 April and 8 May 2024

Source: X-rates. Data as at 8 May 2024. Past performance is not a reliable guide to future performance. For illustrative purposes only and not indicative of any investment.

As usual, key US economic data sets continue to send out conflicting signals. This time around, private sector employment growth surged by 192,000, which beat market expectations, but the level of job openings declined to a three-year low. Although first quarter US GDP growth slowed to 1.6% (from 3.4% in the fourth quarter of 2023) and the manufacturing sector contracted in March, the Federal Reserve has made it clear that interest rates would not be lowered soon.

Labour costs in the US continue to increase at a faster rate than the consumer price index (CPI), which has stalled its downward trend. These two data sets arguably constitute the major reason for the Fed effectively having postponed any reduction in the Fed funds rate to the second half of 2024, if at all. A survey by the Chicago Board of Trade points to this benchmark US interest rate remaining marginally above 5% until 2025.

Movements of the US Dollar Index (DXY, also referred to as the “Dixie”) usually also provides a clue to the performance of the world’s dominant currency. This index measures the value of the dollar against a basket of six foreign currencies, namely the Euro, Swiss franc, Japanese yen, Canadian dollar, British pound, and Swedish krona.

At the level of 105.5 recorded on 8 May, the DXY remains strong and within a range last seen 12 years ago. Still, it has declined marginally over the past two weeks – just enough to boost most other key currencies, with the rand coming out on top by a considerable margin. Another clue to the extraordinary strength of the rand over the past fortnight is the recent sharp increase in the gold price. As a rule of thumb, a higher gold price is associated with a stronger rand.

Any further weakness in the DXY, combined with a lower yield on US long-term bonds, will serve to benefit the rand, which will assist in easing inflationary pressures in South Africa. The latter seems to be a prerequisite for the lowering of interest rates by the Reserve Bank.

Currently, the balance of evidence continues to support a view that the US economy has not cooled down sufficiently to warrant a more accommodating monetary policy stance (and, as an inference, lower lending rates).

Analysts will keep a watchful eye on three important indicators that will determine the fate of currency movements over the medium term – the US dollar index, the yield on US Treasury bonds and the US consumer price index.