- Pula is considerably weak from a Trend Perspective – StanChart
- ZAR will remain resilient in the months ahead – Access Bank
- Pula remains stronger than Rand despite decline in strength
- A stronger Pula (against a weaker ZAR) is ideal – bankers
- Crawl adjustments have limited impact on Pula outlook – FNBB
Last week when The Business Weekly & Review was speaking to Tapiwa Butale, then Acting CFO at Standard Chartered Bank Botswana, the Botswana Pula (BWP) was trading at about 1.26 against the South African Rand (ZAR). Butale pointed out to this publication that this was “considerably weak from a trend perspective”. Her remarks followed revelations by the Bank of Botswana (BoB) that the local currency had depreciated by 3.6 percent against the ZAR over the one-month period to March 2022.
“We think that this was driven primarily by the ZAR fundamentals, which in turn were being influenced by (the) ongoing geopolitical issues,” Butale wrote in response to media questions. From a commodities perspective, she said South Africa was benefitting considerably from the supply disruption chiefly of platinum and palladium.
Her account of the ZAR’s link to high commodity prices owing to supply shocks from the Russia-Ukraine war was corroborated by Kefentse Kebaetse. Kebaetse, who is Acting Head of Global Markets and Treasury at Access Bank Botswana. Kebaetse said prices of coal, palladium and platinum group metals have skyrocketed and in the process boosted South Africa’s terms of trade. Another key point he turned his mind to was South Africa’s link to gold, which is both an inflation hedge and a safe-haven asset in times of financial market and geopolitical turmoil.
While the emerging market investible universe shrank following the Russia-Ukraine standoff, Kebaetse underscored how South Africa maintained its carry attractiveness among its Emerging Market (EM) peers, hence seeing an uptick in inflows to support the ZAR tailwind against other currencies, including the BWP.
The asset class categorisation of the ZAR as a risky asset and IMF Special Drawing Rights (SDR – composed of the USD, EUR, CNY, JPY and GDP) currencies as reserve currencies influences capital flows between these classes, Kebaetse noted, adding that the flows are such that they interchange or have an inverse relationship between the SDR and ZAR based on economic and geopolitical spheres. With global stresses easing but commodity prices remaining elevated, Gomolemo Basele, Quantitative Analyst at First National Bank Botswana (FNBB), observed how the ZAR gained strength against the USD, falling below the 15.00 level in mid-March 2022. “Our base case is for dollar strength in 1H22 as higher inflation globally exacerbates risk-off environment.”
Against this background, Kebaetse explained that outflow from one currency affects the value of the alternate as investors move funds between risky assets looking at the economic factors as well as geopolitical developments. At StanChart, Butale noticed how among EM currencies the ZAR has been a relative outperformer, partly due to perceived terms-of-trade gains. “The ZAR has been firming, a trend we continue to see, and the BWP weakening, as a result,” Butale explained to this publication. She argued that the outlook would largely depend on the direction of the geopolitical issues going forward. However, she is concerned that the commodity association may potentially leave the ZAR vulnerable to any suggestion of slowing commodity demand from China, should China’s zero-COVID policy affect growth more significantly. That said, Stanchart does not think the trend will likely unwind within the next two quarters at least.
Kebaetse added to Butale’s views that South Africa’s attractiveness among its Emerging Market peers and the ZAR is well poised to continue, reflecting high degrees of resilience. He is of the view that the ZAR will remain resilient in the months ahead, supported by favourable trade dynamics and its safe-haven status within the Emerging Market currencies. “The underlying demand for imports remains weak, exports remain strong, while the risk associated with South Africa’s fiscus has subsided,” he pointed out.
FNBB forecasts the BWP vs ZAR to average 1.32 in 2022. In its view, based on the degree to which the BWP closely tracks the ZAR, movement of the South African currency will continue to account for most of the movement it expects to see in the BWP against major crosses in the medium-term. In addition, due to the construction of the peg, Basele explained that ZAR strength against crosses such as the USD leads to a slightly weaker BWP against the ZAR, and vice-versa. But despite the ZAR having the lower weight in the basket of currencies, he opined that it is the dominant determinant in the BWP outlook.
Crawling band exchange rate
Botswana uses a crawling band exchange rate regime under which the BWP is pegged to a basket of currencies. The BWP is currently pegged 45 percent to the ZAR and 55 percent to the SDR (composed of the USD, EUR, CNY, JPY, and GDP). Kebaetse explained that 55 percent of the BWP movement is determined by the SDR, and if the SDR appreciates against the ZAR, this means the BWP appreciates against the ZAR to a 55 percent extent. On the other hand, as the SDR appreciates against the ZAR, the ZAR is depreciating, pulling 45 percent of the BWP value, meaning the BWP depreciates against the SDR.
The central bank applies a rate of crawl (currently -2.87 percent p.a.) to the BWP exchange rate regime; the values are adjusted upwards or downwards at the beginning of each year, factoring in the inflation differential between Botswana and its major trading partners. Basele argued that adjustments made to the crawl, however, have a limited impact on the BWP outlook, as it implies that the BWP will depreciate by 2.87 percent over the course of the year. He argues that a difference of this size can sometimes be observed in a single day’s trading of volatile-freely-floating currencies in the BWP peg, like the ZAR. Even so, Kebaetse believes that the determined rate of crawl follows that the BWP value can move within a certain range established by the authorities, and in this instance, the guidance is against parity, hence the BWP should remain stronger than the ZAR despite the decline in the strength. As at 21 April, BoB shows that BWP was trading at 1.28 against the ZAR. Today it was trading at 1.31.
A stronger BWP against the ZAR is essential
When BoB disclosed that the BWP had depreciated against the ZAR, this generated heated debate over the exchange rate, with some suggesting that the ZAR should be stronger than the BWP. The bankers interviewed by this publication differed in the sense that Botswana is a net importer from SA: a strong ZAR (against a weaker BWP) will naturally be detrimental to importers as the ZAR will be expensive against the BWP, argued Butale, who concluded that “a stronger BWP (against a weaker ZAR) is ideal”.
Kebaetse agreed thus: “It reduces the risk of pushing up inflation because imported goods become less expensive. The reverse is indeed true, as it has been the case with ZAR appreciation.” In his view, the ZAR has a greater share in the basket, reflecting the need to protect the interests of the majority of Botswana’s domestic firms whose consumption, expenditure and revenue decisions have a significant ZAR-denominated component. Because of this greater share of the ZAR in the basket, he said, adjustments can be made to the peg to affect the currency value to support a certain exchange rate objective. “So, in this instance, if authorities need to maintain strength against the ZAR, authorities are helped by the weighting to effect the policy,” Kebaetse noted.
Basket weightings, therefore, influences the performance of the BWP against the ZAR and the SDR respectively relative to the capital flows and brings in a form of stability. “As we know, the ZAR is a substantially volatile currency,” Butale said. “With the current pegging, movements in the ZAR will not necessarily result in disruptive movements in the BWP.”
BWP appreciates against SDR
BoB indicated in its statement that the BWP had appreciated by 2.5 percent against the SDR over the one-month period to March 2022. Given that the SDR also has other currencies that constitute the remainder of the basket, Butale discovered that these have different fundamentals that drive them. The USD, for instance, which forms part of the basket, has lost ground as a result of the geopolitical developments, among other factors.
A general key factor that Kebaetse also identified to have played a role in the appreciation of the BWP against the SDR was that most of them had an accommodative stance to support recovery of their respective economies against a backdrop of elevated commodity prices that supported emerging markets, including the BWP. This is partly as a result of following fundamentals outlined by Butale: Pent up demand in diamond sales – essentially coming from a low base (pandemic-related) as key markets reopened and the restrictions seen on Russia (being the world’s largest diamond producer). The effect of this has been substantially higher diamond prices, a much-needed tailwind, benefiting Botswana’s export gains, evidenced by an improved budget.
On the back of elevated commodity prices, Kebaetse said the BWP is expected to appreciate slightly against the SDR, although cautioning that the commitment by the central banks of the respective currencies within the SDR to move to an aggressive monetary tightening trajectory this year will limit the uptick. FNBB currently forecasts BWP/USD to average 11.68 in 2022.