In our previous articles, we've discussed at length about the energy price shocks that have traumatised most of Europe and the rest of the world. Multiple corporations do trade with governments and corporations listed in the stock exchanges of first-world countries including the London Stock Exchange and the New York Stock Exchange, and would in essence be affected by the effects of the energy price surge.
The energy price shock has been the leading factor contributing to the high inflation seen across the world, which has impacted major currencies including the sterling. Recently, the Chancellor of the Exchequer in the UK, Kwasi Kwarteng announced the British government's spending plan which many fear will spark inflation.
This has led to the Bank of England pushing up the monitory policy rate to contain inflation as has been seen across many economies. According to a publication by Goldman Sachs’ foreign-exchange specialist, Michael Cahill, the UK's economy will experience significant negatives as its growth outlook is weighed on due to a large share of income being spent on compensating the cost of living for the British, thereby contributing to the pound's fall.
Bringing economics to this, monetary policy is yet to tighten in response to the new fiscal policies and as such financial markets will demand higher premiums for UK assets using cheaper currencies to lower the price of government debt. Conveniently, the United States Dollar comes in very instrumental in this instance and several countries across the world use this currency as a safe haven.
The main concerns about the recent turn of events are a lack of coherence between the central bank and government and this is troublesome in the context of financial markets. This might contribute to the fears of a looming recession as markets are worried about policy credibility and that this may not necessarily combat the rising inflation as intended. This is dangerous for a major economy trading with multiple economies. The Institute for Fiscal Studies stated in a recent report that “UK borrowing is on an unsustainable path” and this could lead to trade friction and less foreign direct investment, fuelled further by Brexit.
The United States Treasury Secretary has expressed on Twitter that the new policies are rather “irresponsible”, following a swift downswing in markets, again speaking to issues of policy credibility.
Africa should express worry as much of its national budgets have their deficits funded through the fixed income market which particularly invests in government bonds as these are less risky investments. Now ask yourself, how many asset funds and pension funds have investments and interests in the London Stock Exchange? The FTSE 100 index has been a very lucrative investment which many asset fund managers seek, and you would find often the stock market moving in the same direction with fixed income markets.
To break this down, if these markets are crippled, this affects the funding that is used for public health care and education among other key government objectives. Think of Botswana which has a budget deficit of P6 billion and what this would mean for our small population which already faces several socioeconomic issues including low pay and unemployment.
Botswana should also worry about economy-specific problems, including high costs of procurement since Botswana is a net importer. This could raise the import bill as the import basket includes goods procured from Britain and other Asian countries in US dollar denominations, which has risen against the Pula due to the decline in the sterling and this occurs at a time where the cost of living is already rising and governments are hard at work in combating this.
Botswana's currency basket is paired against its major trading partners, including the USD and the GBP. On one hand, the USD will forever be considered a safe haven because it can afford to print more money in the economy through the Federal Reserve and compensate for this by taxing its resident wealthy individuals to save its currency. This is why investors always seek it out. The United Kingdom cannot follow the same as it simply cannot afford to.
There are other countries from the past that did not exercised caution with the currencies they paired with, leading to a deterioration in their home currencies and triggering disinvestment by global markets. Countries such as Argentina, Mexico and Greece are among these. Do recall as well that Botswana imports oil from South Africa, which is also affected by the weakening of the pound against the dollar, meaning they are likely to effectively buy oil from their suppliers in Nigeria, United Arab Emirates etc at higher costs, when already there are supply constraints.
This will push inflation up further and we would see central banks increasing interest rates to curb this, meaning your mortgage payments are yet to increase among others. *Chilo Ketlhoafetse is a Chartered Accountant and seasoned finance specialist focusing on economic issues affecting the local business environment. Commentary and interactions can be sent to [email protected] and Twitter @chilo_ket
