By Yona Menon Banda
The main take appears to be that by allowing for a “market determined” exchange rate, the interbank will be allowed to align with the parallel market rate. Doing so will make it more viable for forex holders to liquidate their cash on the interbank market, which should improve supply. The measures are unlikely to have an immediate impact on price levels as pricing will probably continue to follow the parallel market exchange rate. The idealist’s “economic playbook” would be that over an extended period the measures result in:
- an alignment between the interbank rate and parallel rate
- forex voluntarily flowing into the formal financial system
- pricing aligned to the formal exchange rate as interbank becomes primary market for forex trade
- and a stable equilibrium exchange rate.
There are a few problems, though. Given the RBZ’s own estimation that 70% of the local transactions are in USD, the supply enhancing effect is likely to be marginal – at least in the short-term. This lends some support to the measures falling short of full exchange liberalization with export “surrender” requirements remaining and the RBZ maintaining its allocator role. But the problem is that a market determined rate implies increased volatility – with a strong possibility of further ZWL devaluation as the interbank rate “chases” the parallel rate. As the rate devalues, the ZWL cost of acquiring surrendered forex proceeds will increase. Without any clarity about the country’s foreign reserves, the government will have to maintain supply to the interbank market and meet its own forex requirements without increasing money supply.
The recent devaluation episode and subsequent price inflation have largely been blamed on money supply growth fuelled by escalating government expenditure. If the government is committing to a market determined exchange rate this issue needs to be addressed. The government needed to commit to restricting a strict fiscal budget framework – with surrendered forex purchases limited to a fixed budget that can only be supplemented by budget re-allocations. Otherwise, there is a risk that the measures end up maintaining the devaluation trend of the ZWL.
Beyond that, it is a move that may be coming a bit too late in the game. Dollarization is widespread and confidence in the economy is at a major low. In the absence of an unlikely credit bailout or a sudden influx of FDI, the success of these measures depends almost entirely on the government attaining a level of fiscal discipline that has so far proven impossible. The election factor is also likely going to add to spending pressures in the short-term. So, the skeptic’s scenario outcome reads –
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- Interbank chases parallel rate.Interbank devaluation escalates government spending, leading to money supply growth.
- Parallel rate devaluation ensues with the interbank following suit.
- Reversion back to a controlled interbank rate
- Some fleeting hopes that the IMF staff monitored program and economic trend provide impetus for the post-election government to meaningfully rein in spending and adhere to a strict fiscal framework. Otherwise, it is more of the same on the horizon – Harare