An assessment of the role of real exchange rate on economic growth in South Africa

Abstract

Despite periods of seemingly improved trade and economic growth in Africa, the continent remains lagging behind in trade competitiveness, internationally, as exchange rate variability intensifies. Consequently, the choice of a weak or strong currency is at the centre of the debate in developing economies as exchange rates play a vital role in a country?s level of economic growth. The article assessed the impact of real exchange rates on economic growth in South Africa from 1994 first quarter to 2015 fourth quarter. Time-series data was used, in which Augmented Dickey Fuller and Philip Peron tests for stationarity, co-integration test, and Vector Error Correction Model (VECM) approach for the long run relationship were employed. VECM results revealed that real exchange rate has a negative impact on economic growth both in the short and long run in South Africa. The inference of this article, thus, is that currency revaluation (exchange rates appreciation) can be an effective expansionary monetary instrument in improving economic growth. A strong currency is, therefore, good for economic growth in both the short and long run, as a strong currency attracts foreign investments while also resulting in stable prices in international trade and functioning as a good instrument for controlling imported inflation. Based on the findings, that floating exchange rate system adopted in South Africa, in 2000 should be revoked and replaced by a fixed exchange rate system. Additionally, a strong currency is a good instrument for clearing external debts and for companies which are exporting.