By Victor Bhoroma
AFTER the unsuccessful trial to implement a monocurrency in 2019, the Zimbabwean economy has vaulted back to the multi-currency regime that prevailed between 2009 and 2018 with the US dollar transactions growing in the formal market while dominating trade in the informal sector.
US dollar deposits with local deposit taking financial institutions have grown significantly since March 2020 to now account for over 65% of the money stock in the economy, thereby entrenching the country’s partial dollarisation status.
That foreign currency stock excludes the billions in cash that are kept away from the formal economy by businesses of all sizes, households, and traders. It is estimated that close to US$2 billion is circulating in the informal sector.
The multi-currency regime has eased inflationary pressure as businesses now receipt in foreign currency, reducing demand for foreign currency on the parallel market.
The government’s hopes for a monocurrency were swiftly squashed by low levels of confidence in the local currency (the Zimbabwean dollar) and record annual inflation (659,4% in September 2019) caused by excessive money printing to fund government expenditure and central bank quasi-fiscal operations.
However, money supply in the local currency has stabilised since the beginning of 2021 with reserve money maintaining at just above ZW$20 billion (US$237 million) in the last three months.
However, the widening spread between the formal exchange rate (US$1: ZW$84.48) and the parallel market rate (US$1: ZW$130) is creating a fertile ground for various arbitrage opportunities in the short-to-medium term. The spread also skews prices towards the parallel market rate which maximises business profits.
Auction market actor
The central bank introduced the foreign currency auction system on June 23, 2020and the mechanismhas played a significant role in channelling earned foreign currency to the productive sector where 70% of the total foreign currency has been allocated to the importation of raw materials, machinery, spares, and equipment.
On the other hand, the parallel market has grown from strength to strength since the introduction of bond notes in November 2016, filling in the gap left by financial institutions in buying and selling foreign currency at competitive bids favourable to foreign currency holders.
So far, the auction market is falling short of market demands as it can only allocate approximately US$135 million (as at June, 2021) per month versus national demand of at least US$420 million required to import various commodities into the country.
The central bank dilemma
Despite having a soft peg to the US dollar, the auction market has been a successful bridge in bringing currency stability in the economy. This has been aided by central bank efforts to mop up excess liquidity in the market.
The dilemma that faces the central bank is on how to move from the transitory mechanism to a sustainable managed float exchange rate, how to provide incentives to key players (such as banks, miners and other exporters) and maintaining its firm control on the country’s foreign currency earnings.
Despite having total foreign currency receipts of US$6,288 billion in 2020, Zimbabwe faces an acute foreign currency shortage in the formal sector due to inadequate foreign exchange liberalisation.
The central bank still maintains control in concurrently determining the exchange rate, allocating foreign currency, in buying gold and defining the exchange control regulations.
Retention levels and Fx market
The conflicting central roles have created unsustainable subsidies for importers who get foreign currency on the auction market while posing viability challenges for various exporters who surrender 40% of their foreign earnings to the central bank.
The local industry and miners have been lobbying the central bank to reduce the surrendered position to less than 30% or institute reforms that liberalise the formal foreign exchange market.
The bone of contention is the absence of an efficient foreign exchange mechanism that reduces the spread between the formal exchange rate and the open market rate.
The central bank on its part is reluctant to let the foreign exchange market be free market determined as it fears that inflation might shoot through the roof and certain players in the market have enough capital or deposits to sway exchange rates out of line. Tied to the reservations above, the central bank still maintains its quasi-fiscal operations in buying gold, which consistently increases money supply and also partially funds government expenditure.
Between December 2017 and December 2019, the central bank borrowed over US1,4 billion from the Africa Import and Export Bank (Afreximbank) in three phases to import various unspecified commodities into the country for government programmes. The external borrowings did not pass through parliament as specified in Zimbabwe’s Constitution.
Long-term economic stability
Going forward, the Zimbabwean economy needs an efficient foreign exchange market where rates are market determined (with limited central bank intervention to curb market failure when it is necessary).
Other Sadc countries such as Zambia, Mozambique and Botswana managed to successfully relaunch their domestic currencies after flirtation with dollarisation. Theirs were success stories because they introduced formal foreign exchange markets with limited government intervention and money supply is kept in sync with economic growth.
Zimbabwe’s central bank must commit to money supply discipline, zero interference on determining the exchange rate and end all quasi-fiscal operations.
The central bank can never play the foreign currency allocation and management, exchange rate determination and money supply management roles efficiently at the same time.
The roles pose unbridled conflict of interest, create unhealthy arbitrage opportunities for other economic sectors at the expense of others, and discourage export production or transparency in exports. It is imperative for the central bank to provide regulatory mechanisms for the liberalisation of the foreign exchange market where allocation is independent of its directives or interests.
An efficient and market determined exchange rate will crowd in all economic players and provide a path to free movement of foreign currency to the formal market.
- Bhoroma is an economic analyst and holds an MBA from the University of Zimbabwe. — email@example.com or Twitter: @VictorBhoroma1.