THE major economic policy challenges facing the nation today — pick your favourites among the usual suspects of low public demand, low savings and low investments, high unemployment, brain drain, company closures, lack of confidence, high cost and lack of access to energy and water, the debt overhang, use of antiquated machinery, worsening trade balance, infrastructural bottlenecks and rising poverty levels — are not about monetary policy.
To that effect, monetary policy cannot do much about long run growth; all it can try to do is to try to smooth out where the economy is depressed because of lack of demand.
That economy is somewhat more vulnerable to external shocks because of absence of own currency and an over reliance on raw exports, whose prices have been on a constant decline due to a number of factors including the recent hike of interest rates by the United States and China’s economic slowdown.
In any event, as a small, open, resource-reliant economy dependent on foreign capital, the future trajectory of the Zimbabwe economy and of living standards will be influenced substantially by global and regional economic developments beyond the control of any domestic policymaker.
In a dollarised economy, there is minimal scope for monetary policy because money supply and interest rates are determined exogenously. The State no longer has access to seignorage — the profit flowing from the printing of a country’s currency — and the lender of last resort function of the central bank is severely circumscribed, dependent on the provision of funding by the State. As a result, the authorities have been forced to resort to financial gymnastics, including use of offshore credit lines to support banks.
In a fixed exchange-rate system such as dollarisation, money supply depends on the balance-of-payments. Where the current account is massively negative, averaging more than US$3 billion annually since 2009, domestic banking and market liquidity depends on the inflow of funds on capital account — offshore borrowing including lines of credit, foreign investment and foreign aid. The authorities have sought to ameilorate the situation and make credit cheaper and more accessible by requiring banks to repatriate some of their nostro balances, by seeking to control deposit and lending rates and using moral suasion to encourage banks to lend more thereby increasing deposit ratios.
The exchange rate is also set externally, but unlike a clean floating exchange rate system where the rate is determined by market forces, the US dollar exchange rate is influenced by domestic US economic policies and political developments on the one hand and global political and economic developments on the other. The exchange rate straitjacket within which Zimbabwe now operates is undermining competitiveness, especially during a period of weaker primary commodity prices and an undervalued rand.
The country’s exports which are predominantly mineral exports declined by 12,2 percent from US$2,8 billion in 2014 to US$2,5 billion in 2015, whilst imports declined by 5,8 percent from US$5,9 billion in 2014 to US$5,5 billion in 2015, resulting in a further deterioration of the trade balance by 0,3 percent. The state of the current account confirms that the country is consuming more than it is producing and is tantamount to exporting liquidity from the country. The trade imbalance has also meant that, the hard-earned money from exports, and international remittances have gone towards financing this marauding trade deficit, leaving the country with little resources to put into productive use.
Overall, dollarisation has brought some sanity to a financial system that had approached an abyss. Inflation was brought under control in one fell swoop, but the economy is now facing deflation. The fissure to avoid, however, will be the much-dreaded deflationary environment in which prices in future are expected to be lower than current prices. This is terrible for any economy as it stifles investment and causes individuals and companies to hold back on spending, which continues in a never-ending downward spiral.
The monetary authorities, because they cannot use the conventional monetary policy tools, the recent policy statements have been of late over reliant on moral suasion against a background of declining confidence levels and as also evidenced by the growing illicit financial outflows and low household savings. The authorities should however, be commended for coming up with non-conventional monetary tools like the African Export Import Bank Trade Backed Facility (AFTRADES), which has lender of last resort characteristics and the establishment of the Zimbabwe Asset Management Corporation (ZAMCO), which has stimulus package characteristics. The AFTRADES has brought in discipline in the financial market and ZAMCO is making inroads in cleansing banks’ balance sheets through acquisition and restructuring of nonperforming loans.
While dollarisation has to some extent revived the savings culture, the levels of savings in the economy remains too low to support significant growth in credit extension necessary to lift the economy. What we know is that one cannot spend one’s way to prosperity and wealth creation and growth only come out of savings which can thus be directed toward investment. The effectiveness of monetary policy thus comes down to the ability of the central bank to foster trust and confidence of the financial markets. As such, it is of crucial importance for the leadership of the bank to manage perceptions around policy stability and provide adequate forward guidance.
Presenting the 2016 monetary policy statement, Reserve Bank of Zimbabwe governor, John Mangudya, who is a well respected gaffer of economics, proposed an avalanche of prudential policy measures, which according to him, are intended to transform the economy through rebalancing it away from being a consumptive or supermarket economy to a productive one, and away from the incidence of capital flight characterised by the externalisation of export sales proceeds to one that safeguards hard-earned foreign exchange resources. Mangudya bemoaned the adverse external environment, the falling commodity prices and the firming United States Dollar, the country’s insatiable appetite to import, the short-termism approach by economic agents and lack of collective mindset by Zimbabweans in doing that would make Zimbabwe a progressive nation.
Though the banking sector has remained largely sound, with the core capital base growing from US$811,2 million in 2014 to US$982,5 billion in 2015, and loan to deposit ratio declining from 78,4 percent in 2014 to 68,8 percent in 2015, 23 percent of Zimbabwean adult population remains unbanked, and only 14 percent of SMMES owners are banked.
It is often suggested that bank deposits would increase substantially were it possible to mobilise so-called “idle funds” held in the informal sector. It has been suggested that such funds exceed US$7 billion, which is clearly unrealistic since it would mean that money supply exceeded 90 percent of GDP. In any event, such funds are not idle. They represent the working capital of the informal sector. They are held outside the formal banking system to avoid bank charges and taxation, because it is more convenient — and possibly safer. For these reasons it will be extremely difficult to channel informal sector balances to the formal banking system.
Normally, two main paths to economic adjustment are available for countries experiencing either internal imbalance (high unemployment, stagnant or failling output, rampant inflation and large fiscal deficits) or external imbalance in the form of a large current account balance-of-payments deficit or, as in Zimbabwe’s case, a combination of the two.
Zimbabwe, experiencing both imbalances, must eventually adjust.
From E5One possible adjustment path is exchange rate realignment (devaluation) to curb imports and boost exports, output and employment. But under a fixed exchange rate system — such as dollarisation — such external rebalancing via currency devaluation is not possible. Accordingly the central bank has proposed or resorted to internal devaluation” whereby adjustment is achieved through changes in real variables — output, employment, wages and living standards. Such an “austerity” strategy, which was equally followed by peripheral Euro Zone economies — Cyprus, Greece, Ireland, Portugual and Spain — proves to be an immensely painful process socially and politically because of the impact on employment and living standards.
In Zimbabwe where, according to World Bank data, per capita incomes are lower today than in the early 1960s and where there has been no increase in formal, non farm employment for 30 years, internal devaluation and internal rebalancing is socially and politically sub-optimal.
This explains why – despite the severe problems inherent in de-dollarisation — policymakers will seek over time to de-dollarise the economy. But even those dollarised states, which retained their domestic currencies — Peru is a striking example — have struggled for over a decade to reduce dollarisation. The process will be far more difficult in Zimbabwe where as part of the process it will be necessary to re-introduce a local currency that, at present, no-one wants to hold.
In conclusion, however, the long-term sustainability of monetary policy in a dollarised economy with the characteristics such as those reflected by Zimbabwe remains uncertain. There is a possibility of further compression of exports due to the unfolding global economic slowdown. Our balance of payment position remains precariously difficult at a time when growth in manufactured exports is slow, while the country has insufficient foreign currency reserves at its disposal to finance the current account deficit. The country is very much exposed to external shocks due to the fragile global economy and decried heavy reliance on commodities. Further declines in global activity and commodity prices will have inescapable consequences for the country’s export earnings, and hence its output, incomes, and fiscal revenues. Diaspora remittances and investment flows are likely to weaken, with knock-on effects on domestic demand, banking sector liquidity and loan quality, resulting in more difficult credit conditions. In the face of this adverse external environment, I call for policy interventions that are not disruptive and that will not distort the flow of credit to productive sectors.
The liquidity problem will be primarily addressed by enhancing the exports and also attracting foreign direct investments and other portfolio investments as confidence increases.
There is need for concerted effort in mobilisation of the Diaspora funds.
lKipson Gundani is the chief economist of the Buy Zimbabwe Trust. The views expressed in this article solely belong to the writer