Real Exchange Rate Undervaluation and Poverty Reduction in South Africa: Does the Nature Of Productivity Growth Matter?

While an undervalued exchange rate has gained prominence in the last three decades as a correlate of economic growth and poverty alleviation, South Africa’s experience is less encouraging as the depreciation of the Rand against the United States dollar barely coincided with poverty reduction. Against this background, this paper sought to examine the impact of real exchange rate undervaluation on poverty reduction in South Africa. It also investigated how the nature of productivity growth influenced the impact of real exchange rate undervaluation on poverty reduction. Using annual time series data observed between 1995 and 2020, evidence from binary regressions and a Balassa-Samuelson adjusted undervaluation measure suggests that an undervalued exchange rate could have potentially lifted people out of poverty had it been accompanied by within-sector productivity growth of at least 2.5% annually. The South African economy fell short of this threshold level between 1995 and 2020 as annual within-sector productivity growth averaged 2.2%. Furthermore, evidence shows that South Africa went through a structural change that shifted employment in the wrong direction. Low-skilled workers appear to have moved from primary and secondary to tertiary sectors, a process that shrank overall productivity growth.