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From the Global Crisis to Zimbabwe

HARDLY anyone could claim ignorance over the fact that the world economy is currently going through a financial crisis of such proportions that it is often compared to the all too familiar Great Depression of the 1930s.

For most Zimbabweans, whatever the rest of the world is going through is child’s play given this country’s recent history. Perhaps they could be forgiven for having a “been there, done that and got the t-shirt” attitude. Really, how much worse could things get?

For those fortunate enough to have access to international business news reports, barely a report goes by without some form of reference to how the global crisis has affected this bottom line and that profit margin.

It almost sounds like firms across the world could easily explain away whatever corporate underperformance reported by simply making reference to the crisis and getting a sympathetic ear! Despite the widespread mention of the crisis, very few can explain how exactly this occurred.

Possibly a fable I came across expressed this in a much simpler manner. The tale starts with Chipo, the owner of a neighbourhood pub that has been in operation for as long as one could remember. Over the years, Chipo developed a loyal clientele; the type she knew when their anniversaries and birthdays were.

They would always pass through her establishment everyday on their way home from work. Naturally, having established such close ties, she would sometimes let her devoted customers enjoy the services of her pub on account and only settle the bill on pay day at the end of the month. After all, the system had been working well for years and she could easily vouch for them.

As time goes on, Chipo requires a loan from the bank. Her clever banker suggests to her that since she can vouch for her debtors, she could use them as collateral on her loan or better still, the bank could buy them outright from her. In addition her clients were expected to continue drinking in the foreseeable future.

The banker decides to give them a more financially appropriate name and calls them “Beer Bonds”. This arrangement works well for a while, however, Chipo soon realises that the bigger her debtors’ book is, the greater capital she can access from the bank.

As a result, she starts extending the “drink now, pay later” facility to clients whom she has seen once or twice before at her bar though she didn’t know them as well as she did her usual revellers.

Meanwhile at the bank, Chipo’s bank manager looks at how successful this arrangement has been and offers the same to other bar owners in the area offering similar products but calling them Whisky bonds, Sorghum Beer Bonds and so forth.

He soon takes Chipo’s bonds together with all the others he has managed to collect, sells them to his friend at another bank and makes a small profit.

This process is repeated until virtually all the banks had some exposure to these bonds. Eventually, one bank executive looks at his portfolio of assets and realises that he had too many of the beer bonds.

He decides then to call in the debt. He goes to Chipo’s bar and finds it closed with no one in sight. Upon further enquiries he realises that Chipo had amassed such a large number of unworthy debtors that they eventually ran her out of business.

By the time the bank executive gets back to the office to try and pass on this worthless piece of paper, he soon finds out that everyone else in the market has made the same realisation.

No one wants anything to do with these bonds which he is now stuck with. Given the high exposure the market had in these bonds, all of a sudden this becomes a market wide problem and one after the other institutions begin to fail to meet their obligation.

Banks stop trusting each other for fear that the other party defaults and so the global crisis began.

Of course this analogy is a very simplified account of events that led to the global crisis but it makes for a good synopsis.

It is clear a number of mistakes were made along the way, by assuming more than a fair share of risk.

However, a suggestion has been made that had there been greater regulation and a form of deposit insurance, the global crisis could have been curtailed from the onset and perhaps would not have reached the magnitude it has attained.

The American banking system was characterised by two broad classes of financial institutions: the traditional banks as we know them and the investment houses which were not legally recognised as banks per se but offered a number of similar packages.

Banks in the traditional form are by and large not blamed as the source of this quagmire. Why, because for years they would have been under some form of regulation from the Federal Reserve and so limiting their exposure to non-traditional financial assets.

In addition and perhaps, more importantly, depositors’ funds would have been shielded from decimation owing to the deposit insurance offered by the Federal Deposit Insurance Corporation (FDIC) through compliance with reserve requirements.

The Fed would then have acted swiftly as a lender of last resort, in the process averting a crisis and the associated contagion effects. On the other hand the non-bank financial institutions did not have such protection.

Coming back to Zimbabwe, local banks appear to be operating under the same conditions as the non-traditional financial institutions were in the United States.

The focus is not on the choice and quality of assets invested in but more so on the preparedness of the local banking system to absorb any such shocks to it.

There is no inter-bank market to speak of and should any institution face a liquidity crunch it is more than likely that it will go it alone without any help from anyone let alone the authorities.

Already in some quarters it is believed that Zimbabwe is currently over banked and through a series of consolidations and, in the extreme case, bank failures, the country could end up with a well below half of the institutions operating currently.

Effectively any bank operating within Zimbabwe does not have insurance on customers’ deposits. Even though statutory payments should be made to the Reserve Bank, one doubts the capacity of the authorities to sustain an ailing institution.

A well functioning banking sector aids economic recovery and growth by increasing transactional capabilities.

Until players in the banking sector regain the trust and confidence to transact with each other, one can expect little improvement in Zimbabwe’s credit market.

A credible belief that no matter what happens, the Reserve Bank will be able to support any troubled bank, will go a long way in engendering mutual trust, first between banks and depositors and secondly among banks themselves.

As is often said, the show must go on and sooner or later the return of a vibrant inter-bank market will occur. However, if left unchecked and with no guarantees, one should not be surprised if a number of banks go through what the American non-banks did triggering a  similar crisis albeit on a much less grander scale.


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