Mhambi has been redeployed.

Saturday, March 08, 2008

It's time to peg the Rand low like China

One of the last remaining shoe factories in Cape Town.

Just the other day I was musing with friends why South Africa has not decided to peg its currency at a lower rate, so our manufacturing and services could blossom.

I have of late taken a keen interest in shoe manufacturing, as my girlfriend is a shoe maker. We have investigated manufacturing a range in Cape Town's dwindling shoe factories.

Besides the now growing skills and equipment shortage there is one startling fact that illustrates the South African problem. The average Indian factory worker gets paid about $24's per month. Compare that to a South African factory worker that gets $100 per month or higher.

In yesterday's business day Michael Power argues strongly for just the remedy we were talking about. Pegging the Rand low for the sake of being competitive.

My essential view — which I have doggedly maintained for more than a decade — is that the rand remains structurally overvalued. The main reason I give is that the rand’s current trading range is trapped in the straitjacket of what works for SA’s first economy. But, at this elevated rate, the overvalued rand prevents the second economy from having even the remotest of chances of working, literally and metaphorically.

Let’s start with the basics. SA is living way beyond its means; we have a current account deficit of 7,8% of gross domestic product (GDP). To balance our national books, we need inflows of foreign capital of about R3bn a week, or R600m a working day. Those economists who say it is “natural for a successful developing country to run external deficits and so import capital” need to read pretty much any post-1980 book on real-world economics. Even at the risk of generalising, no, it is not natural to run a deficit if you want to be successful. The emerging economies that have grown most — essentially the east Asian Tigers and now the waking dragon that is China — have been the ones that have put export-led growth first by adopting a hyper-competitive currency; this puts current account surpluses at the centre of their development strategy.

I feel sorry for those economists who simply cannot accept that the “developing countries run deficits” piece of conventional economic wisdom is precisely wrong. Sure, occasionally when global liquidity is abundant you can run deficits and get away with it. But, to paraphrase Warren Buffett, when the tide goes out, then you see who has been swimming naked. And boy, did that tide go out! And sure enough, now everyone can see that SA dispensed with its (no doubt Chinese-made) swimming trunks years ago.

It is time to catch a wake-up, SA. Is this roller coaster we are riding going to be the way we continue to run our economy for ever and a day? Is our economic development plan to become little more than a case of surfing the ebb and flow of the credit cycle, while all the time being subject to the capricious kindness of strangers and their capital?

Will we ever remain little more than a slave to America’s unhealthy rhythms? Must we wait for the planets to align in our favour again, enjoy the party that follows, only to rue the hangover that follows thereafter? And worst of all, by far worst of all, are we in the first economy going to continue to avoid addressing the plight of those trapped in the second economy, unemployable in today’s global economy given today’s rand’s exchange rate? And do we practise this last denial by turning a blind eye to the economically disenfranchised, buying off our consciences with the equivalent of an annual 3% of GDP transfer by way of social grants for 12,7-million people? (If you answer “yes” to the latter, shame on you.)

So now it is my turn to play a game with you, dear reader. Think carefully before you answer this question. I offer you the following choice. Do we build SA’s economy by sticking with the “First Economy First” approach and go with a strong rand? Or do we do what east Asia did and adopt a “Second Economy First” approach, using a more competitive and so much weaker rand? You know which option I would go for.

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