Zimbabwe must re-dollarise and fast!

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Clive Mphambela
Before the official adoption of the multi-currency system in January 2009, the Zimbabwean economy had been battered by hyperinflation, high and unsustainable budget deficits; a growing balance of payment deficits; acutely low foreign currency reserves, and thus foreign exchange shortages, low industrial capacity utilisation; extreme levels of financial dis-intermediation and shortages of the local currency (the then Zimbabwe dollar Z$ cash).

The economy suffered a massive skills flight, and the few companies that remained endured low levels of staff moral, acute foreign exchange shortages, very low effective demand, which also led to low levels of production and thus diminished productivity across all the productive sectors of the economy.

Real incomes fell sharply due to increasing unemployment levels and this was followed by increasing household vulnerability and rising poverty.

Informal sector activities became the mainstay of the economy and as the economy witnessed an upsurge informalisation of business activities, a conducive environment for tax evasion was created severely undermining efforts by Government to broaden the tax base and minimise revenue leakages.

These are the issues that the new Government must now quickly address in order to re-rail Zimbabwe’s economic train, which has been derailed by a series of negative expectations.

The widespread fears that Zimbabwe is heading into another hyperinflationary phase has led directly to the loss of value and confidence in the RTGS or electronic representation of the US dollar.

The RTGS is now viewed largely as a local currency and the rising spectra of inflation the economy, has forced the reduction in planning horizons (short-termism) by both businesses and households leading to speculative and hedging behaviour.

Rising inflation has pushed up the costs of doing business for local companies and thus a loss of competitiveness, as domestic inflation is now seen much higher than that of the country’s trading partners.

The increasingly uncertain environment is leading to postponement of key investment decisions and many companies are currently faced with real risk of closures or having to scale down operations.

Inflation hedging has become the prime occupation and agenda of the corporate sector, with every entity seeking to lock up its productive resources in illiquid physical assets (property and vehicles), trading stock, equities, and foreign currencies. Households and individuals are also doing the same with ominous consequences for the economy.

The environment is becoming so difficult that normal economic transactions and systems are breaking as different economic agents seek out ways to preserve value of their hard earned incomes and companies pursue capital preservation strategies that exclude the use of electronic currency whose value is seen to be evaporating at an extremely fast rate.

Prices are now quoted directly in foreign currency or indexed to parallel market rates between the RTGS and US dollar and multiple prices are now in use depending on the medium of payment used in the transaction (i.e. transfer rate for electronic transfers, Bond note cash rate and US dollar cash rate etc.)

Foreign currency in particular the US$ is now used primarily as a store of value (asset substitution) and less as a medium of exchange (currency substitution). The business of changing money on and off the streets is thriving, especially among the unemployed youths and the sophisticated elites.

However, the market distortions that have become pervasive, especially the arbitrary changes in the rates of exchange have reignited the debate on policy alternatives that can stabilise the economy and provide a viable medium of exchange and store of value.

That option is to allow the re-depolarisation of the Zimbabwe economy, without losing the value of the current stock of RTGS money.

To understand how this can be done, let us take a short walk back in history.

On December 6, 2008, The Harare Chamber of Commerce, Tax Management Services (TMS) and the  Coalition for Market and Liberal Solutions (COMALISO)held a Breakfast Forum on Dollarisation in Harare where the Reserve Bank of Zimbabwe, which had in October 2018 made ground breaking proposals that paved the way for dollarisation of the economy, when it announced the introduction of Foreign Currency Licensed Wholesalers and Retail Shops (FOLIWARS) purposes, thus legalising currency substitution.

Prior to this announcement foreign currency was predominantly used as a store of value with people buying US dollars as a store of value for subsequently converting the Z$ which, was still exclusively the legal tender. Now we have a unique opportunity to allow two economies to emerge a US dollar denominated economy and an RTGS driven one.

We can learn from the past when the Reserve Bank had selectively legitimized the use of foreign currency when it introduced Foreign Currency Licensed Wholesalers and Retail Shops (FOLIWARS) in October 2008.

Prior to this the use of foreign currency had been legalised for the purchase of fuel coupons under the Direct Fuel Imports Scheme. The FOLIWARS and the fuel coupons system3 had shortcomings which, the official adoption of the multiple currency system sought to address.

These distortions come at great cost and we are losing as an economy by allowing the “incorrect pricing” of vital resources such as foreign currency.

Speedy resolution of the currency problem becomes decidedly one of the critical ingredients for broader macroeconomic reforms that are urgently required for the economy.

The status quo is that the multi-currency system is not only functioning sub-optimally, but is also driving the economy in quite the opposite direction. Primarily, the current state of the current multi-currency system is responsible for the dislocations in the foreign exchange market which manifest on two fronts as spiralling of parallel market rates on one hand and worsening foreign currency (Nostro and Cash) shortages in the formal market on the other.

The source of the dislocations above is none other than the foreign exchange system itself that is badly structured.

The pseudo peg of the RTGS and Bond Note against the real US dsollars at one to one IS SIMPLY NOT working and must be addressed if we are serious about economic recovery.

The currency framework is no longer amenable to piecemeal solutions and patchwork, but the Government, through the central bank, must be bold enough and seize the opportunity to implement comprehensive reforms that are necessary for the normal functioning of the banking and financial system and therefore the sustainability of economy going forward.

Growing exports alone will not solve the structural problems that are hurting the foreign exchange system. The Reserve Bank governor’s thrust for supply side interventions will not yield fruit as long as fundamental market based mechanisms for price discovery are lacking in the system.

As things stand, efforts aimed at stimulating the supply side, through subsidised foreign exchange for importers at the expense of exporters are creating longer term disincentives for exporters while creating an artificial demand for foreign currency from net importers. The result is that we are dissipating value through a foreign currency “sinkhole” which rewards users of foreign currency at the expense of generators of the same.

The second problem as alluded to, parallel market rates are attracting foreign exchange from the formal banking system into the informal banking system. The streets are lined end to end by foreign currency dealers whose job is now effectively to push up rates to create margin opportunities.

The foreign currency and cash crisis can only be resolved through a bold and far reaching currency reform initiative led by the Government through the Reserve Bank of Zimbabwe. My take is that addressing the currency problem is not divorced from general macro stability issues. Therefore the currency reforms programme must be at two levels:

First there must be a sustainable macro framework or fabric and then secondly there must come a basket of legal and policy reforms required for long-term monetary stability.

Critical factors include the following:

Fiscal Consolidation: There must be Government expenditure realignment and adjustment in order to address monetary disturbances that are emanating from fiscal imprudence.

Bond note surrogate currency must be demonetised as they have created a thriving parallel market. The coins can be retained or even increased to alleviate adjustment problems for those transactions of low value.

The country’s debt problem must begin to be addressed, following a clear programme with a defined end game.

Zimbabwe can and should adopt a new currency regime that involves a comprehensive review of exchange controls especially export surrender requirements.

The banking sector has been allowed to introduce a new set of Hard Currency Foreign Currency accounts where funds deposited into these new accounts by individuals and corporate and NGOs, etc. from a cut-off date are kept in Nostro or cash on a fully matched basis.

However, for this framework to work, these Special FCAs must be protected by law, and customers should be able to utilise these in an unfettered fashion. However, national priorities should still be taken care of, NOT from export surrender requirements, but from appropriate import taxes that should be payable on certain classes of goods in foreign currency.

This implies that the current RTGS money should be ring-fenced and be allowed to trade down over time, through the interplay of market forces between electronic US dollars in the banking system and real or nostro dollars. This will require a raft of legal instruments and policy reforms needed to facilitate migration from the current illusion of dollarisation to a new currency regime that restores the integrity of the multi-currency system.

Demonetisation of the Bond Notes and implementation of the above measures will not come without serious pain of adjustment. It is without doubt, that the current foreign currency liquidity challenges can only be resolved in the short term through enhanced access to lines of credit, sustained growth in inward remittances; portfolio investment flows and grants and in the medium to long term , through the growth of exports, which themselves are a function of greater investment and productivity.

However, if we are to be serious, fiscal reforms which are necessary for macro stability, also require pragmatic currency reforms that will underpin and even drive sustained economic growth going forward.

Last but not least, currency reforms should not be viewed as a substitute for deeper institutional reforms that are needed to improve economic performance of Zimbabwe. Without the necessary credible and holistic economic and institutional reforms backed by strong political will at both the design and implementation levels, it is unlikely that the economic recovery, transformation and growth agenda will be achieved in the near future.

The writer is an economist and the views expressed in this article are his personal opinions and should in no way be interpreted to represent the views of any organisations that the writer may be associated with.

 

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