Reserve Bank of Zim faces a bond currency trilemma

This article argues that bond notes are simply denominations of a local currency called bond currency. It is also argued that fixing the value of bond currency at 1:1 with the US dollar ushers the classical economic bind called a trilemma.

The Brett Chulu Column

It is a well-known principle of leadership that people do not buy into a vision, but buy into the visionary. They trust the visionary before they trust the vision. This law of leadership is what is at play in the acceptance of the bond notes monetary innovation.

The chequered history of the Reserve Bank of Zimbabwe (RBZ) is one that has eroded the trust many Zimbabweans have in the monetary solutions proffered by the apex bank. It’s that trust deficit that needs to be addressed in order for any solution the apex bank offers to have a buy-in. It doesn’t make this task easier when our top bank advances a monetary solution based on a concept that is as clear as mud.

The concept of bond notes is befuddling even to those who may sympathise with the RBZ’s pickle. I want the RBZ to succeed.

First, the fact that the RBZ insists that the bond notes will be primarily used to incentivise exporters at a rate of 5% of export value in a bid to boost export revenues is a contradiction of the highest order. A bond, according to generally accepted wisdom, is a debt instrument that either a government or a company issues to the market to raise funds. The very fact that the RBZ is issuing a bond-related instrument to give money to exporters defies the very definition of a bond. Simply put, a bond denotes intention to borrow money as opposed to issuing money.

Strictly speaking, on the basis of accepted wisdom, it should be the exporters issuing bonds and not the RBZ. It just doesn’t make sense that a cash-strapped government would just dish out money to exporters for free. Why this is puzzling is that the government itself is borrowing that money. Even if the government were to borrow at concessional rates, it would still have to pay back the loan and interest due.

The African Export and Import Bank (Afreximbank) is owned by both private and public investors. It was widely reported that on May 30 this year Aliko Dangote, the Nigerian multibillionaire, acquired a substantial equity stake in the Afreximbank. It would be a hare-brained argument to suppose that the shrewd Dangote would buy a stake in Afreximbank to obtain sub-market investment returns.

Why the Dangote association with the Afreximbank loan facility is germane to this discussion is that the so-called US$200 million that is said to back the bond notes is coming from the Afreximbank. The RBZ did not disclose the interest this loan is attracting and thus it is not unreasonable to surmise that the Afreximbank loan is most likely priced at a fair commercial rate. Whatever that fair rate may be, it’s a big cost that the government has to bear.

As it stands, the government does not intend to recover the cost from exporters. The term bond notes would make a lot of sense if these were issued to Afreximbank since it is the one lending the money to the government. Equally, it would make sense if the exporters were the ones issuing the bond notes as they are the ones receiving money from the government. What reconciles this cacophony is if the bond notes are simply denominations of a bond currency.

Second, since bond ordinarily denotes intention to borrow from financial markets, issuing bond notes to the public is baffling. The government has not expressed any intention of borrowing directly from the public. The way we know the public to participate in lending to the government is via investment instruments such as unit trusts and pension schemes. It is unheard of for a government to borrow directly from the public.

The argument that a bond note is another US dollar is a hard sell. It would make sense if the bond notes were units of a local currency. On that score, proclaiming that one bond note is equivalent to the US dollar of the same quantum would be an act of exchange rate fixing. Perhaps this was the original intention. The RBZ press statement of May 4 made mention of a bond currency. For the avoidance of doubt, here is the full quote from that press statement as articulated in point 31: “Following the announcement in the January 2016 monetary policy, the process to configure the RTGS system into multi-currency is already underway. Initially, the following currencies will be enabled in addition to the existing US dollar: i) ZAR (South African rand) ii) Eur (Euro currency) iii) Bond Currency (emphasis is not mine, it’s the RBZ’s).

It is clear from the May 4 press statement that the bond would be a currency in addition to the existing basket of currencies. The bond is not the US dollar as per the statement’s formulation — it’s a separate currency. If the bond is indeed a currency as articulated in this press statement, the export incentive scheme makes sense — the RBZ is issuing money to exporters in a currency called bond. Given that conceptualisation, the use of the bond appellation is a matter of linguistic preference designed to find an appropriate name for a new local currency.

Clearly, in this construction, the RBZ is not using the term bond in the standard economic sense. Logically, it becomes inescapable to conclude that the bond is our new local currency. The challenge with this scenario is that the RBZ has hauled onto itself the classical economic phenomenon called a trilemma.

A trilemma in the economic sense is a situation where a reserve bank cannot simultaneously control three of the following: policy independence, fixed exchange rate and capital flows. In a trilemma you can only choose any of the two and lose control of the third one. In our case, the RBZ has chosen independence and a fixed exchange rate. The trilemma tells us that the RBZ won’t be able to control capital flows. If the RBZ reacts by trying to put controls on capital flows, the fixed exchange rate collapses — the 1:1 peg will cease to hold.

With the lenses of a bond currency rescued from the bond notes conceptual bafflement, the debate on whether the bond currency can alleviate cash shortages has quality raw materials to build arguments with.

The elephant in the room remains — will the nation have confidence in our bond currency? The RBZ has a clever way of rebuilding this confidence based on Skinnerian psychology — at first — very small amounts of bond currency in circulation that will not upset the 1:1 peg — in time we will all get used to the fact that the bond is as good as the US dollar.

How about just admitting that we have in fact a new currency called the Bond? Trust is restored by being honest. Will Zimbabwe score a world first by defying the trilemma?

Chulu is a management consultant and classic grounded theory researcher. He has published research in an international peer reviewed academic journal.