Dynamics of inter-bank forex market stability

THE foreign currency auction system is now in its third week of operation. To date, more than US$30 million has been traded on the market out of slightly a higher level of bids of not more than US$40 million, implying that most of the funds sought through the formal market have been satisfied.

Respect Gwenzi

The exchange rate has moved from 57 in the first auction, three weeks ago to almost 66 in the latest auction, a depreciation of 16%. While this is staggering when looked at relative to other currencies and economies, it is however conservative and more favourable compared to losses in value which characterised the bourse over the two-month period between April and May.

It could be loosely interpreted as stabilisation or at least movement towards stabilisation of the market. More so, the parallel exchange rate has not moved much since the resumption of the auction system three weeks ago, which is a positive.

Another positive recorded has been tightening bid-ask spread. From the data released by the Reserve Bank, the lowest and highest bids have been moving closer to each other, as equilibrium and stability is sought.

However, the real matter of whether the market is stabilising or not should be looked at more broadly, especially in the context of foreign currency supply. As highlighted above, more than 80% of the money demanded has been availed, meaning supply levels have been sufficiently high. Intuitively, the auction system has been such that high bids have been punished as bids as low as 25 were matched. Subsequent trades have seen top bids coming off to about 90 in the third auction from 100 in the first as psychology kicked in.

The aspect of supply requires not much stretching of the mind since it is common knowledge that the bank is a player. The bank can, as and when it sees fit, supply or demand forex on the market. This is typically done as a way of stabilising the exchange rate. Given that the Bank is supplying only aggregate bids and supply without showing the sources of supply, it is prudent to assume that the Bank has so far been an active participant on the supply side.

So the bank redeems unutilised forex by exporters at a conservative rate while at the same time it also redeems export retention at conservative rates as well as per regulation. So from this, it is also fair to conclude that the bank has more leeway in terms of offloading the same forex at discretionary rates on the inter-bank. It is therefore not surprising to see very low bids in the region of 25 being satisfied.

In fact, in an interview with private media at the latest auction, Professor Ashok Chakravarti, who is a member of the Monetary Policy Committee, said “we” are matching all bids all the way to the lowest and in the process burning those with higher bids. The RBZ, just like the Zimbabwe Stock Exchange, should generally be just a regulator, monitoring trades and not unilaterally matching trades, except for very unique cases where markets are volatile.

In any case, the foreign currency purse is not bottomless and can only run so far. In the case of Zimbabwe, it is even dangerous to note that the bank has much of a hand in the market given that there are no known foreign currency and gold reserves.

It is alarming because if the reserves are thin or at zero, then whatever resources are being utilised on the inter-bank will run out. This is made worse by the fact that settlement of retentions and unutilised balances at sub-market rates dis-incentivises production and exports, which means in the near term foreign currency earnings will also dwindle as exporters tame back exports to preserve value, especially in mining. So in matters of the inter-bank market, it is particularly important to ascertain the colour of the money. This will tell us more about sustainability of supply and stability of the market in the long run. Other key factors to consider are the money supply levels, especially base money. Data released by the central bank shows that base money has grown by almost 50% in the first half of the year. This level of growth in high-powered money means stability becomes a moving target as local currency supply shifts.
Gwenzi is a financial analyst and MD of Equity Axis, a financial media firm offering business intelligence, economic and equity research. — respect@equityaxis.net