Dollarisation: A study of dollarised economies (I)

Respect Gwenzi

l Study shows that at least 20 economies that dollarised in history with varying levels of dollarisation;

l In all cases dollarisation was adopted due to price and exchange rate instability;

l Zimbabwe adopted the US dollar as official currency in 2009 after hyperinflation; and
l Dollarisation has both upside and downside effects.

Zimbabwe is going through what authorities prefer to term an economic transition following a move to abandon the US dollar as an official currency in 2019. Earlier, authorities had evoked a tight economic management policy (austerity) to rebalance the economy with a view to tame fiscal and eternal trade excesses that had driven both fiscal and external trade imbalances.

Although we concur that the economy is in a transition, we also believe that it has been caught in transition trap and is now in a crisis. The crisis has abruptly disrupted the progress earlier made on reconfiguring the economy through the Transition Stabilisation Programme, a short-term economic programme adopted late in 2018, but now off rails.

Equity Axis has undertaken a study of dollarised economies, first to ascertain how various of these economies fared during the subsiding dollarisation period and this was done by picking five key variables that track economic performance and these include GDP growth, external trade performance and fiscal balance. The other two whose outcome is a given are inflation and exchange rate. Our study showed that the primary driver of dollarisation in all instances, including Zimbabwe, was the need to stabilise prices and the exchange rate. This was after all the economies under study had experienced high inflation or hyperinflation and sharp exchange rate losses.

In Africa, Zambia, DRC, Angola, Mozambique, Egypt and Ghana have all dollarised in the past together, but their form of dollarisation was mild compared to that adopted by Zimbabwe in 2009. Globally, famous dollarised economies included Argentina, Bolivia, Panama, Ecuador, Poland, Israel, El Salvador and Vietnam. For purposes of our study, we only referred to economies which fully dollarised by disbanding their own currencies. Most economies that dollarised were developing countries mainly in Africa and South America and were vulnerable to fiscal imbalances and commodity cycles as they relied much on a certain individual commodity for foreign currency.

On dollarising, all the economies immediately achieved price and exchange rate stability. In Zimbabwe, inflation immediately came down to a single digit from several quintillions. Countries that adopted a dual currency system struggled with inflation and drastic devaluation of local currency, but also benefitted monetary policy flexibility allowing them to influence exchange rate, in some instances, such as when global commodity prices were weak or economic growth was low. Outside of this benefit, a dual currency system could not deliver the much-needed stability. We found out that, generally dollarised economies achieve stable positive economic growth, but at the same time the growth levels are low, gradually slowing down over the long-term. The average GDP performance of dollarised economies is way below that of economies using their own currency over the long-run.

On the fiscal side, dollarised economies generally show experienced negative fiscal balances (deficits) but in most instances the deficits, as a percentage of GDP, were within manageable levels of between -1% and -6%. Higher fiscal imbalances demand that government has to borrow from the open market or print money (electronically under dollarisation) both of which may be a hazard to currency stability. Zimbabwe under dollarisation struggled with fiscal stability as deficits widened particularly between 2014 and 2018.

Within this period government escalated its borrowings to fund the budget gaps and therefore catalysed de-dollarisation of the economy. Dollarised economies generally enjoy relatively lower deficits level than those using own currencies in developing countries. This may be attributed to currency and price stability which increases revenue predictability and therefore reduces volatilities, thus allowing for effective budgeting and less over expenditures.
Gwenzi is a financial analyst and managing director of Equity Axis, a financial media firm offering business intelligence, economic and equity research. — respect@equityaxis.net

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