The relationship between the South African Rand and commodity prices: examining cointegration and causality between the nominal classes
Date
2011-11-28
Authors
Ndlovu, Xolani
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Abstract
We employ OLS analysis on a VAR Model to test the “commodity currency” hypothesis
of the Rand (i.e. that the currency moves in sympathy with commodity prices) and examine
the associated causality using nominal data between 1996 and 2010. We address the
question of cointegration using the Engle-Granger test. We find that level series of both
assets are difference stationary but not cointegrated. Further, we find the two variables
negatively related with strong and significant causality running from commodity prices to
the exchange rate and not vice versa, implying exogeneity to the determination of commodity
prices with respect to the nominal exchange rate. The strength of the relationship is
significantly weaker than other OECD commodity currencies. We surmise that the
relationship is dynamic over time owing to the portfolio-rebalance argument and the
Commodity Terms of Trade (CTT) effect and in the absence of an error correction
mechanism, this disconnect may be prolonged. For commodity and currency market
participants, this implies that while futures and forward commodity prices may be useful
leading indicators of future currency movements, the price risk management strategies may
need to be recalibrated over time. For monetary policy makers, to manage commodity price
risk and concentration risk on the country’s exports, we suggest establishment of a selfinsurance
scheme such as a Commodity Stabilisation Fund established in Chile in 1985.
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Keywords
Commodity, Currency, Exchange rates