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Some Empirical Observations

In the past several years, South Africa has taken a number of steps, such as budget-deficit reduction and adoption of a more flexible exchange rate regime, that have helped reduce its vulnerability to adverse external shocks. In addition, the SARB has made considerable strides in reducing the net open forward position (NOFP), which has represented a major source of external vulnerability, has been lowered significantly. The NOFP, however, remains relatively large. As such, it continues to represent a source of concern to investors that is reflected in South Africa’s sovereign risk spreads. The SARB has, therefore, expressed its commitment to. | The Volatility of Capital Flows in South Africa Some Empirical Observations By Michael Nowak African Department International Monetary Fund Prepared for BER Conference Johannesburg June 1 2001 The views expressed in this paper are those of the author and do not necessarily represent those of the International Monetary Fund. Research assistance was provided by Ms. Pamela Mjandana and Mr. Nehrunaman Pillay. - 2 - The Volatility of Capital Flows in South Africa Some Empirical Observations I. Summary and Conclusions In the past several years South Africa has taken a number of steps such as budget-deficit reduction and adoption of a more flexible exchange rate regime that have helped reduce its vulnerability to adverse external shocks. In addition the SARB has made considerable strides in reducing the net open forward position NOFP which has represented a major source of external vulnerability has been lowered significantly. The NOFP however remains relatively large. As such it continues to represent a source of concern to investors that is reflected in South Africa s sovereign risk spreads. The SARB has therefore expressed its commitment to achieving further reductions. This note examines alternative options available to the SARB for reducing the NOFP. On the basis of some preliminary statistical findings it argues that Regular pre-announced foreign exchange purchases may help bring about up-front cuts in borrowing spreads but could place undue pressure on the rand the external current account and the real economy. Care should be taken in targeting capital inflows such as FDI that may be perceived as stable while such flows may indeed be less volatile than other capital flows they still tend to show little persistence over time. However in the case of certain large one-off inflows of FDI such as privatization proceeds there may be a strong basis to suppose that the inflows will not be reversed. It makes sense therefore to purchase some or most of these inflows. The .