The headwinds are on the way

BY ALICE CHENJERAI

THE Government of Zimbabwe recently took a position to correct market distortions and abuse of foreign currency obtained from the Reserve Bank of Zimbabwe’s exchange system through Statutory Instrument (SI) 127 of 2021.

SI 127 of 2021 penalises businesses that use foreign currency obtained from the auction system for purposes other than those specified in their application forms.

Transgressors will be fined a fixed penalty of ZW$1 million (about US$11 760) under the new regulations announced three weeks ago.

Under SI 127 of 2021, any business that manipulates the exchange rate to induce consumers to pay in forex will be fined ZW$50 000 (about US$580).

Businesses will also be penalised for factoring in parallel market rates when setting prices, while those who will only trade in forex will face the wrath of the law.

If transactions take place in foreign currency, the SI 127 compels businesses to issue receipts in forex.

As the Confederation of Zimbabwe Industries said after the SI came into force, government’s intentions were noble.

Its actions were driven by the need to curtail price distortions and market arbitrage, thereby protecting consumers from profiteering businesses.

Prior to SI 127 of 2021, such guidance had been enforced through many similar SIs announced before.

As a result, it became difficult to track the SIs as some of them had expired.

For starters the market had failed when bond notes were introduced in 2016.

The interbank market returned in February 2019, kicking off at a fixed rate of US$1:ZW$2,50.

Four months down the line, government introduced SI 142, which banned trade in forex and enforced a mono-currency regime.

However, government then failed to collect taxes in forex using the Finance Act of 2009 and 2012, leading to the issuance of SI 85 of 2020, which corrected administrative shortcomings brought by SI 142.

The government also recognised that de-dollarisation was a process.

Through SI 85, it gave the nod to transact in both forex and the Zimbabwean dollar using the interbank rate.

However, it is important to note that businesses had already started factoring in parallel markets rate after struggling to access forex from the auction system.

In addition to the auction system, fiscal policy reforms undertaken by government from October 2018 had brought exchange rate stability, investor confidence and stimulated demand.

But things have changed now.

Despite the temporary stability registered in the economy, there still lacks implementation of proper monetary targeting, which will ensure continued exchange rate stability.

While fiscal policies were consolidated, the monetary policy remained loose, thereby holding back gains from the fiscal side.

This can be seen though recent developments where some economic agents responded to SI 127 by hiking prices while many have not even complied.

The SI is seen as an economic shock which requires monitoring.

Below are some of the unintended consequences on SI 127 of 2021:

Effect on consumer demand

An increase in annual inflation from 164% realised in May will mean that real household incomes will decline as consumer demand takes a significant shock.  Remittances are likely to increase demand for non-tradable goods and raise their prices.

This will also result in real exchange rate appreciation, decrease in exports and damaging the receiving country’s competitiveness in world markets. The consumer basket will also increase and this will hit labour and pensioners.

 Effect on production costs, trade

In a dollarised economy like ours it means that all prices in local currency are informed by US dollar free market exchange rates, not the auction rate. An increase in production costs will in turn hit local production, increase propensity to import cheaper processed imports and reduce export competitiveness. Purchasing power will shift to the hard currency and all consumables will be imported at the expense of local production.

This will increase the trade deficit and contradict the government policy that strives to boost exports and local value addition. ‘’Command’’ monetary policy will lead to lower market supply, trigger shortages of goods, especially those that require foreign currency and fuel the black markets. Informal players without access to cheap forex will be affected because restocking would be difficult.

Effect on inflation

Since the SI compels businesses to sell in forex using the ruling exchange rate, US dollar prices will increase by at least 45%. Prices will rise in US dollars, resulting in USD inflation.

Some surveys have already indicated that prices have increased by 50 to 60%. Zimbabwe’s blended month-on-month inflation rate in May stood at 1,80%, gaining 0,86 percentage points on the previous 0,94%.

This is a combination of inflation for prices that were quoted in US dollars and inflation for prices that quoted in Zimbabwe dollars.

Formal retailers will be priced out, giving an advantage to the informal.

 Effect  on  forex  market

According to central bank figures monthly industry requirements stood at US$100 million, but the market is supplying about 30% of this requirement. This will mean more pressure on the auction market. The use of the auction rate would result in consumers converting their US dollars to Zimbabwean dollars on the parallel market prior to purchasing, a practise widely seen outside retail chains.

The Zimbabwean dollar is currently overvalued as shown by the downward depreciation in the markets. Parallel markets are now ranging US$1: ZW$125 to ZW$130 from the previous US$1: ZW$120. The official exchange rate is currently at US$1: ZW$85. Parallel markets are rocketing. It is now 50% more expensive to purchase the US dollar on the black market. There exists disequilibrium in the foreign exchange following a hike in demand for forex over supply.

 Effect on tax revenue

The Finance Act of 2009 and 2012 allows the government to collect various taxes from local taxpayers in foreign currency. Revenue collected is used to settle foreign debts and support the forex auction market. Businesses will not forgo hard currency sales. They will evade taxes and record US dollar sales as local currency takings.

The move towards strict price monitoring will force businesses to remove goods from the formal market to avoid losses.

It is clear that government holds the key to taming the exchange depreciation.

The main focus should be on liquidity management to stabilise exchange rate.

Government must widen policy consultation to consideration varied views.

Chenjerai is an economist by training. She is interested in policy analysis and possesses an in depth knowledge and understanding of macroeconomics and development economics. She also has project planning and management experience and she writes in her personal capacity. She can be contacted on 263 775145046, Email: alicechenjerai@gmail.com