HomeBusiness DigestCurrency conundrum in Zim, emerging inflation pressures

Currency conundrum in Zim, emerging inflation pressures

Continued from last week

THE currency solution has been illusive to Zimbabwe since the country started experiencing hyperinflation the 2000s. Once a currency auction was adopted in 2004 and was marred by the ‘invisible hand’ in exchange rate determination. Money creation was another root problem to the first currency auction that the country implemented.

The second currency auction is negatively influenced by delays in settlements of foreign exchange for a period of eight to nine weeks, which creates a window to source foreign exchange on the parallel market by economic agents. The widening premium between the official and parallel market exchange rates does not augur well for a country with low productivity and production levels.

The situation has been made worse by the referencing of prices to the parallel market exchange rate. The referencing of prices to the parallel market exchange rate is illustrative of the fact that economic agents lack confidence in the exchange rate determination mechanism and its stability.

About US$1.2 billion in FCA accounts should have been part of foreign currency available to facilitate imports. However, industry is reluctant to use those funds due to fear of exchange rate and inflation instability.

Policy has to address deja vu as inflation expectations are fully entrenched in the economy due to the agonising hyperinflation experiences of the past. Economic agents have a feeling of having already experienced the present situation in terms of inflation and erosion of the value of savings. The policy process has a lot of confidence building to achieve.

Way forward

The currency of currency is confidence.  Economic policy should cultivate a culture of confidence in the economy. The policy formulation and implementation process should be devoid of policy inconsistencies especially those that derail the macro-economic stability that was obtaining in the economy as evidenced by year on year inflation rate deceleration from 838% in July 2020 to 162 % in May 2021. Month on month inflation rate also declined from 36% in July 2020 to single digit inflation since August 2020.

Measures should be put in place to enable the efficient operations of the foreign exchange auction system. Transparency and accountability on the currency auction can be improved through publication of available resources before the beginning of each auction. This should help build confidence in the currency auction.

Allowing the currency auction to play its price discovery role will enhance efficiency of the currency auction.  This will ensure that there is allocative efficiency.  This way the premium between the official market exchange rate and the parallel market exchange rate is reduced thereby reducing arbitrage opportunities in the economy

In addition, the timely settlements of foreign exchange transactions by the currency auction will starve the parallel market premium of transaction as economic agents rely more on the foreign exchange auction system.  This will also ensure a unified exchange rate system for price reference in the economy.

Money creation for public expenditures should be limited to statutory limits in order to support the currency auction. This will ensure that the exchange rate does not run due to excessive liquidity injection into the economy especially at this juncture when resources are required for grain procurement.

The policy formulation and implementation process should incentivise production up the value chain as enunciated in successive national budget policies.  This will ensure that those commodities which the country can produce with a comparative advantage are produced locally and these include sunflower for edible oil production and maize for staple food production. The country should strive to locally produce raw materials for agro processors in view of the fact that cereals which include maize, rice and wheat contributed 11% to the import bill during the first half of 2020. Policy can target dairy, leather and oil seeds particularly cotton value chains.

The importation of petroleum products took up 27% of total imports from January to June 2020. This means that in order to save foreign currency, the country has to invest in technologies that produce alternative sources of energy in order to save foreign currency.

Going forward, policymakers need to implement policies that generate foreign currency through increased exports and saving foreign currency through import substitution.

Lack of business confidence to invest due to low returns to investment results in capital flight and capital dearth as both domestic and foreign investment dwindle. According to the UNCTAD’s 2020 World Investment Report, Foreign Direct Investment inflows to Zimbabwe declined significantly to USD280 million in 2019, compared to USD 745 million that was realised in the pre-crisis period in 2018. This goes on to illustrate the need to implement policies that increase investment and grow the national product. The greening of national output is also key for sustainable national development.

Bandama is an economist and writes in her own capacity.

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