Currency volatility to remain

THE interbank foreign currency market entered its fifth week of trading this week. At the close of trades on Tuesday, the Zimbabwean dollar had lost 4,5% on prior week levels.

Respect Gwenzi

On average, the Zimdollar has shed 5,5% every week over the last four weeks to give a cumulative loss of 21% since resumption of interbank trades. Broadly, weekly losses of about 5% represent a currency that is yet to stabilise. Interestingly, since the resumption of the interbank market in June, the parallel market rate has not moved any further up, having hit a high of 1:105 earlier in June. However, given a cumulative Zimdollar loss of 62% between April and June on the parallel market, the average rate of weekly decline at about 5% (parallel) is slightly more favourable compared to the current interbank weekly losses averaging 5,5%.

To maximise success in subsequent trades, intuitively, lower bids will have to improve upwards towards the prior week weighted average, while on the other hand to maximise upside, highest bids would have to moderate downwards in line with prior week guidance. Subsequent weekly trading data shows participants immediately factored in these dynamics as both the top and lower bid moved closer to each other. Broadly and over a longer duration, this trend should drive the currency to stability, ceteris paribus. Before we conclude that the market is moving towards stability, other observations are pertinent from the trading statistics. Firstly, the rate of bottom bid movement upwards has been higher than the rate of top bid movement downwards. In fact, the movement in bottom bid upwards has increased in successive sessions while that of top bid downwards has narrowed. A sustained combined movement of this nature implies that in not so many auctions ahead the top bid may stop coming off and begin to trend upwards.

Really, as shown earlier, what drives these trends is the underlying supply-and-demand forces. Data show that total bids in value terms have generally increased in successive weeks over the last five-week period of auction trading. From total bids of US$11,4 million in the first week of trading, the current week bids were almost double at US$20,3 million. Clearly, supply levels have struggled to match the level of demand as shown by the declining rate of successful trades as a percentage of demand (value solicited). The allotted amount to total forex demand ratio has declined from 91% in the first week to 73% in the fifth week. This means demand has grossly been outweighing supply and, naturally, this disequilibrium drives the exchange rate to a worse off position. These technical indicators support the view that at least over the one-month period, the average rate of currency depreciation will be sustained at current levels.

Technical indicators such as the ones used above to deduce the foreign currency outlook on a short-term basis may be insufficient to draw a reliable conclusion, especially on a longer-term forecast period. Over the long term, money supply fundamentals and general economic stability status have a superior bearing on the exchange rate. Money supply data show that there has been minimal volatility between May and early June. For most of June, base money supply trended southwards. Movement over the highlighted period coincided with trading activity on the interbank. In fact, the movement represents cancellation of base money balances by the bank as it sold forex to importers, whose balances it elected to erase. This undertaking also shows that the RBZ is one of the biggest participants on the supply side. The bank is actively selling forex and acquiring RTGS balances, which it then cancels out. The implication is such that local currency balances chasing US dollars are reduced. Consequently, it may bring short-term stability and sustained stability only if supply levels are maintained.

There is clearly excessive and inevitable pressure which is likely to show in the second half of the year. While a budgetary surplus was attained for the half year, adjustments of civil servants’ salaries, Covid-19 bailout and other related social subsidies will inevitably put pressure on government to induce money supply through injection of local currency.

The alternative of open market operations has debt implications and the drawback of weak balance sheet positions by highly geared financial institutions. This highly exposes the Reserve Bank of Zimbabwe as it will be forced to inject base money. The jump experienced in the week to July 10 represents a government commitment to the funding of the winter crop. While this funding was premeditated, the fragility of the currency market makes it vulnerable to such spikes in money supply, however noble. We therefore anticipate that the Zimdollar will remain weak against the US dollar and do not see stability and convergence with the parallel market being attained in the short run. We are also concerned about the impact of the Zimbabwe Stock Exchange’s re-opening to currency stability. The bourse is expected to resume over the next week or two and a good fraction of the funds will be moving from the bourse to the currency market. This will escalate forex demand levels in the economy, helping push the exchange rate into adverse territory.

Gwenzi is a financial analyst and MD of Equity Axis, a financial media firm offering business intelligence, economic and equity research. — respect@equityaxis.net