By Pierre Heistein

Pierre HeisteinExchange rates are the price of one currency in terms of another. Therefore, just like with the price of any other good, it will fluctuate with supply and demand. In South Africa, we always state the exchange rate as the price of buying one unit of the foreign currency.

For example, if the rand-dollar exchange rate is R6.50/$ this means that the price we have to pay to buy one dollar is R6.50. If demand for dollars increases we can expect the price of the dollar to go up, let’s say to R7.00/$. We now have to pay more rand for the same amount of dollars meaning that the rand has depreciated and the dollar has appreciated.

When applying the effect of the exchange rate to the property market we need to separate between foreign demand and local demand. We also need to make a distinction between the short run and the long run.

Between 1 June 2010 and 1 May 2011, the rand has overall appreciated from a value of R7.70/$ to a value of R6.60/$. It is an appreciation of the rand because now we need to pay less rand to get the same amount of dollars, meaning the rand is stronger than it was. What effect will this have, or has this had, on property trading?

The immediate effect in the short run will be felt by foreign buyers because the price of property in South Africa, from their point of view, has gone up. Let’s take the example of somebody who put their flat on the market in June 2010 for R1 million. Their flat does not sell but they do not change the price. To somebody earning in dollars the flat in June 2010 when the exchange rate was R7.70/$ was equal to R1,000,000 ÷ R7.70 = $129,870. However, in May 2011 when the exchange rate was equal to R6.60/$ the price of the flat for them is now R1,000,000 ÷ R6.60 = $151,515. This is a 16.7% increase in the price and is likely to push many foreign buyers out of the market.

An appreciating rand is therefore likely to decrease foreign demand for South African property, and a depreciating rand will have the opposite effect.

Regarding local demand the exchange rate is likely to have very little effect in the short run. To somebody earning rand, a flat costing R1 million will be R1 million regardless of whether the dollar is worth R7.70 or R6.60.

The effect of a sustained rand appreciation is going to be an income one, and will be felt in the longer term. South Africa relies heavily on imported goods such as oil, machinery, and consumption. When the rand appreciates we need to pay less for foreign currency and therefore less for foreign goods. An appreciating rand is therefore likely to cause the general level of prices in South Africa to come down and inflation to decrease. People will therefore have more disposable income and what once may have been an unaffordable flat may now be within their reach. A secondary effect is that when inflation drops the South African Reserve Bank can afford to loosen interest rates and allow growth in the economy. Decreasing interest rates will make home loans and other borrowing mechanisms cheaper for the consumer and people are likely to borrow more, in order to invest in property.

The effect of the exchange rate on your property will therefore largely depend on whether your market is a foreign or local one. It is also important to remember that while these relationships may hold true in isolation, there are many other influencing factors on the property market which may make the effect of exchange rates negligible, or very small indeed.

Article reference: Paddocks Press: Volume 6, Issue 5, Page 3

Pierre Heistein is the course convener for the University of Cape Town Applied Economics for Smart Decision Making course which is presented in conjunction with GetSmarter.

This article is published under the Creative Commons Attribution license