SI 127 of 2021: A long view


The latest directives by the government have been the talk of the day since their release. SI 127 of 2021 was announced towards the end of last month and this was quickly accompanied by another directive by the Reserve Bank of Zimbabwe that mandates deposit-taking institutions to surrender excess Zimbabwe dollar (ZW) balances in exchange for zero-yielding non-negotiable Certificates of Deposit (CDs).

In summary, SI 127 penalises the following;

l Using funds obtained from the FX interbank in any way other than that stated in the application for the said funds;

l Exclusively charging goods in foreign currency and not accepting ZW at the ruling exchange rate as a form of payment;

l Lack of reasonable due diligence by interbank players;

l Selling goods using an exchange rate other than the ruling exchange rate, or imposing either a premium on ZW payment; and

l Receipting in ZW dollars for purchases done with foreign currency.

The motive for the statutory instrument stems from a variety of issues that have limited the government’s efforts to institute a wholly accepted and stable currency and exchange rate, among other objectives.

However, in the few days that this directive has been in effect, the formal sector responded by increasing the United States dollar price to levels consistent with their replacement cost pricing strategy.

Most businesses in Zimbabwe have adopted a cost-based pricing strategy given the challenging macro-economic environment that makes a value-based pricing strategy infeasible for volumes-driven firms. The cost-based pricing strategy typically focuses on covering the costs of production enough to make a sustainable profit.

This also extends to ensuring that the money received for payment of goods is enough to replace the inventory and maintain sales. The increase in US dollar prices following the issue of SI 127 of 2021 strongly suggests that the directive impedes formal businesses’ ability to execute this strategy and maintain solvency because there remains a considerable amount of operating costs that are pegged at the parallel market rate, despite having an allocation on the FX interbank auction system.

In other words, it simply does not make economic sense to manufacture a product, whose costs are pegged at parallel market rates and sell that product at an exchange rate that does not cover the cost of production of the next unit.

We note that one major cost that is effectively pegged at parallel market rates is fuel. Fuel is currently sold in US dollars at almost all service stations in the country and given that there is no allocation on the FX interbank for businesses and individuals that require FX for fuel purchases, it stands to reason that all goods sold in Zimbabwe will almost always include a portion of costs pegged to parallel rates, bringing the effective rate somewhere between the interbank and parallel exchange rates. According to Morgan  & Co Research’s Colanomics Indicator, this effective rate is currently ZW$104,89/US dollars.

We opine that there are two ways that the government could address this issue. Firstly, the government’s directive to price in ZW will extend to fuel suppliers and this could usher in a return of fuel shortages and queues. Alternatively, fuel continues to be priced in US dollars and businesses will fail to maintain production levels which, in turn, increases the risk of empty shelves, widespread shortages of goods over time, and increased demand for US dollar for imports, which could fuel a depreciation of the local currency.

The directive will also have the unintended effect of driving activity from the formal to the informal sector. The informal sector, which accounts for about 70% of Zimbabwe economic activity, will likely maintain its recognition of the parallel market rate over the interbank rate, and consumers holding US dollar balances will most likely make US dollar purchases, where it holds more value to them, that is, in the informal sector. This will support the informal sector at the government’s expense given the resulting losses in foregone foreign currency-denominated tax revenues.

The formal sector will likely experience an increase in ZW transactions. Given the new quasi-US dollar prices, any rational consumer would opt to convert their US dollars to ZW at a higher rate and then use the ZW to pay for goods and services in formal establishments.

This resulting excess financial liquidity is what the government hopes to mop up with the Certificate of Deposits in a bid to prevent speculative and inflationary borrowing. However, we note that the continued recognition of the parallel market in many respects poses high solvency risk for exporters who are mandated to liquidate foreign currency proceeds at the ruling rate vis-a-vis a parallel market-influenced cost base. With the possible increase in imports in mind, this could subsequently drive a trade deficit.

It is on the back of these developments that we note immediate inflationary pressures driven by US dollar inflation. The expected inflationary pressures are also likely to set back any wage-bargaining processes in the future given the impact of the SI on disposable incomes. However, as more ZW liquidity is mopped up from the market, an inflexion point will be reached where the market will experience an increase in demand for ZW compared to US dollar demand, which could drive downward pressures on parallel market rates in the medium-to-long term, all things being equal. We opine that the stock market will likely respond negatively to the directive in the medium-to-long term. The growing demand for ZW relative to US dollar will likely force a withdrawal of liquidity on the Zimbabwe Stock Exchange, especially by retail investors, which could drive a period of depressed trading on the exchange in the trading sessions after the inflexion point.

We like the statutory instrument’s intention of fostering market discipline and protecting vulnerable consumers, but we remain cognisant of the severity of the informal sector and concur with the IMF in its assertion of the limited effectiveness of any policies because of an extensive shadow economy in the country. We are also of the opinion that the government is punishing the formal economy at large, for the sins of the few culprits who could be isolated and dealt with on a case-by-case basis.

Mtutu is a research analyst at Morgan & Co. He can be reached on +263 774 795 854 or