The effectiveness of the SARB in managing bubbles in the USD-ZAR market

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2020

Authors

Mkhabela, Phehello M

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Abstract

In this paper we use the monetary model to detect the presence of bubbles in the ZAR/US$ foreign exchange market. We also test if the interest rate used by the South African Reserve Bank (SARB) is an effective tool to manage bubbles in the ZAR/US$ currency pair. We first test for evidence that the money supply and real output variables are cointegrated with the exchange rate process. Our results show that there is no cointegration amongst the variables. We therefore conclude that when shocks enter the system, an equilibrium point is not restored. We thus conclude that there is evidence of a bubble in the exchange rate process. We then test the properties of the error term to confirm if the bubble decays by its own lags or not. We also test for evidence that the interest rate decays the bubble as intended by the SARB. We conclude that the bubble term and the interest rate decay the bubble in lag 2 but in an insignificant manner. We thus draw the conclusion that the bubble is explosive as it grows exponentially. Our overall conclusion from our tests is that there is evidence of a bubble in the ZAR/US$ exchange rate and the instrument used by the SARB is not effective in managing it. The continued depreciation of the ZAR against the US$ can therefore be said to be unrelated to the economic fundamentals of an exchange rate. There is a need for the SARB to relook its monetary policy to address the inefficiencies in the economy as a result of this bubble.

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A research submitted in fulfilment of the requirements for the degree of Masters of Management in Finance and Investment (MMFI) to the Faculty of Commerce, Law and Management, Wits Business School, University of the Witwatersrand, Johannesburg, 2020

Keywords

, Bubble, Economic Fundamentals, Monetary Model, SARB

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