Zim risks falling into the Venezuelan trap

Source: Zim risks falling into the Venezuelan trap – The Zimbabwe Independent May 20, 2016

As the dust settles and the queues fade (albeit temporarily) outside banks in Zimbabwe, we take a closer look at the current economic crisis gripping Venezuela. The crisis in Venezuela provides a stark reminder of the consequences of economic mismanagement and the lessons that should be learnt.

The Ritesh Anand Column

As highlighted last week, Zimbabwe is suffering from a crisis of confidence. The proposed introduction of bond notes along with other monetary measures has only served to heighten fears and increase speculation in the country.

Little, if anything, is being done to restore confidence or reassure the general public. You cannot fly a plane with one engine, neither can you run an economy with a monetary policy alone. The issue is not dollarisation; in fact, given the sharp depreciation in regional currencies, a strong and stable United States dollar could have been beneficial for Zimbabwe had we created a favourable environment for investors. Instead we continued to be hostile towards investors and did little to protect domestic industries from collapse.

As the US dollar became stronger, we became less competitive in the region leading to the collapse of many industries. A strong US dollar combined with exorbitant borrowing costs meant that companies had to be super-competitive to survive. Zimbabwe lost a number of key industries during the hyperinflation era. Those that survived required fresh capital to restart operations. In many cases, companies raised expensive debt to recapitalise their businesses, which was fine when the economy was growing.

However, following the fall in commodity prices in 2013, growth stalled and the tide turned on companies that were highly leveraged. Companies could no longer support debt repayments and started to default on their loans. Non-performing loans (NPLs) grew from less than 4% in 2011 to over 20% in 2014 as more and more companies failed to service their debts. NPLs have since declined partly as a result of the establishment of the Zimbabwe Asset Management Company (Zamco), but remain stubbornly high and will likely increase in the current environment.

The current economic crisis in Venezuela is a stark reminder of what could happen in Zimbabwe if we do not act decisively to address the current economic crisis.

This week, the President of Venezuela, Nicolás Maduro, declared “a constitutional state of emergency … to tend to our country and more importantly to prepare to denounce, neutralise and overcome the external and foreign aggressions against our country”.

The Venezuelan economy shrunk by 5,7% last year and it is being projected to contract by another 8% in 2016. Meanwhile, inflation is raging wildly out of control. According to the International Monetary Fund (IMF), the official inflation rate in Venezuela will be somewhere around 720% this year and 2 200% next year.

Food staples and essential medicines are increasingly scarce. The costs of basic goods and services has skyrocketed. Polar, a private conglomerate that makes around 80% of Venezuela’s beer (as well as much of its food), stopped brewing in April after the government turned down its request for foreign currency it requires to import malted barley. Incomes, for those lucky enough to still have one, are stagnant. Further, crime rates have reached troubling levels. Venezuela now boasts the world’s second-highest per capita homicide rate after Honduras.

Electricity is also in short supply, and a two-day work-week has been imposed on many government employees in a desperate attempt to save power. Even schools have been forced to close on Friday in a desperate effort to save electricity.

According to Professor Steve Hanke, the Venezulan bolivar is expected to fall from midweek’s black market (read: free market) rate of 1 110 to 6 699 by year-end. So, the IMF is forecasting that the bolivar will shed 83% of its current value against the greenback by New Year’s Day 2017.

The current crisis in Venezuela is a stark reminder of costs of economic mismanagement. Zimbabwe has already experienced this once and can ill afford to go through another economic crisis so soon after the collapse of the economy in 2008. The proposed introduction of bond notes as an export incentive has unnerved the market.

The country is likely to experience fuel and food shortages in the coming months as fuel importers limit supplies due to restricted supply of the US dollar. This is likely to lead to hoarding and people stocking up in anticipation of the shortages. It won’t be long before we go back to 2008 when the shelves were empty and people spent much of their time in queues.

Doing nothing is not an option. Zimbabwe needs to urgently raise external capital through loans or foreign direct investment (FDI). Given the outstanding debt, it is unlikely that we can borrow more until we settle our outstanding arrears. This leaves only one option and that is to attract FDI.

Attracting FDI in the current environment is challenging, but not impossible. We need to create a conducive environment for investors, it’s as simple as that. We need to eliminate corruption and overcome the deep mistrust that has become so prevalent in Zimbabwe.

The government should also consider consulting with key stakeholders to accelerate the process of re-engagement to stop the economy from collapsing. Financial support will come with the necessary reforms. Tinkering with the monetary policy without addressing the underlying issues facing the country is like using a bucket to put out a forest fire. Zimbabwe needs to develop a holistic and comprehensive set of economic reforms to turn this economy around. These issues need to be urgently addressed or we risk falling into the “Venezuelan trap”.