24 February 2011
The government will continue to support the South African Reserve Bank in accumulating foreign exchange reserves and engage in foreign currency swaps in order to moderate the effect of capital inflows on the rand exchange rate, says Finance Minister Pravin Gordhan.
Presenting his Budget Speech in Parliament in Cape Town on Wednesday, Gordhan said that the rand had appreciated by 12% against a trade-weighted basket of currencies in 2010.
From December to half-way through February 2011, the rand had depreciated by about 10%.
The Reserve Bank spent R53-billion on foreign exchange reserve accumulation in 2010 – about 2% of GDP. South Africa’s foreign exchange reserves increased by US$5.8-billion to $45.5-billion in 2010.
Between August and January 2011, the Reserve Bank entered into long-term currency swaps worth $4.3-billion in order to sterilise foreign currency flows.
Volatile capital inflows
While capital inflows to developing countries were expected to continue over the long term, they would remain “inherently volatile,” Gordhan said.
Net private inflows to emerging markets increased to $908-billion last year from $581-billion in 2009.
The rand was not alone in its strong appreciation last year – strong capital flows during 2010 led to significant appreciation of several emerging currencies, such as the Brazilian real, the Indonesian rupee and the South Korean won.
Gordhan said the capital inflow management problem was largely confined to a subset of emerging market economies, namely: Brazil, China, India, Indonesia, Malaysia, Mexico, South Africa, and Turkey, which received 95% of portfolio equity flows to emerging countries last year.
He said the accumulation of reserves was the tool widely used to manage capital inflows in 2010.
Gordhan said the Institute for International Finance expected these inflows to remain high during this year.
While high capital inflows could help finance domestic investment, they represented a risk as they could contribute to overvalued currencies and create domestic asset bubbles.
Gordhan said the IMF was promoting international “rules of the road” to manage capital flows and forestall the rush to protectionism or competitive devaluations.