ECONOMIC TALK: Government can’t avoid a second ESAP 

ECONOMIC TALK: Government can’t avoid a second ESAP 

Source: ECONOMIC TALK: Government can’t avoid a second ESAP | The Financial Gazette

President Emmerson Mnangagwa

President Emmerson Mnangagwa

By Munyaradzi Mugowo

THE term ESAP (Economic Structural Adjustment Programme) is quite infamous and almost abominable in Zimbabwe for the simple reason that the period of reform is associated with great social hardships, an increase in the level of poverty and a decline in social services.
Critics of the market reforms often point out that ESAP was a disaster because the growth chalked up during the period (1991-1995) did not lead to a reduction in poverty and unemployment as everyone had hoped.

From a social perspective, the argument is not entirely wrong, only that it overlooks the fact that ESAP didn’t ruin the economy as widely claimed or believed. Ironically, in fact, the economy reached the peak of its post-independence performance — its all-time high — under ESAP.

It boosted production and trade of value-added goods and significantly improved the country’s policy and regulatory frameworks, putting it on a path to long-term growth led by manufacturing and trade.
For instance, manufacturing share of Gross Domestic Product (GDP) hit 30 percent for the first time since independence, while its contribution to export earnings surged.

State-owned enterprises (SoEs) privatised during the period have achieved considerable commercial and financial success. A notable example is Dairibord Limited, which changed from a commodity board into a successful public quoted company.

The reforms were significantly affected by a severe drought of 1992, considered Zimbabwe’s worst drought in more than a century, just a year into ESAP, triggering a recession that interfered with macroeconomic targets.

There are several myths about ESAP, which need to be demystified to help the general Zimbabwean citizenry to understand that structural reforms — in my view the answer to Zimbabwe’s current economic problems —are not necessarily bad in themselves.

ESAP was necessary

First and foremost, ESAP was not imposed by the International Monetary Fund (IMF) and the World Bank as often suggested. The reforms were designed by the IMF and the World Bank and prescribed to address macroeconomic imbalances at the behest of the government of Robert Mugabe, which on its own had recognised the need for economic policy change given persistent macroeconomic instability, more or less as a fire-fighting measure.

I would like to draw some important parallels between the macroeconomic imbalances of 1991 and the present instability.

According to a World Bank Zimbabwe Country Assistance Evaluation report of May 2004, the economy was at the time experiencing “unsustainable fiscal deficits and low growth” .

Real GDP growth rate averaged 2,9 percent over the period 1991-1997 while the ratio of fiscal deficit to GDP surged to 10 percent, driven by high social spending including subsidies particularly on health and education, which were funded from domestic borrowings and by very high taxes estimated at about 36 percent of GDP.

Government domestic debt was 30 percent of GDP in 1990-91 but interest payments were only 4,5 percent of GDP because of negative interest rates (9,8 percent nominal interest compared with inflation rate of 23 percent).

The World Bank Zimbabwe Country Assistance Evaluation report also indicates that the fiscal deficit was aggravated by a bloated civil service; budget allocations to underperforming SoEs and agriculture-related spending. This occurred within a context of declining tax revenues and rising unemployment, which had reached more than 20 percent by the end of the 1980s.

Although 28 years sit in between, the crisis of the 1990s closely resembles the current crisis in both nature and gravity.

At the end of 2017, Emmerson Mnangagwa (ED) inherited an unstable economy plagued by stunted growth; negative job growth; unsustainable fiscal deficits (estimated at more than 10 percent of GDP in 2017, 8,7 percent in 2016 and 2,4 percent in 2015 against international best practices of no more than 2,5 percent of GDP) and rising public domestic debt, which was projected to reach $4,8 billion, about 28 percent of GDP, by the end of 2017 from $4 billion, almost 25 percent of GDP at the end of 2016.
The debt level is even higher if the liabilities of local governments and non-financial public corporations are taken into account.

Revenue projections are also pessimistic. In 2016, revenue fell six percent and is seen trending downwards through to 2018.

Deficit financing is by way of domestic borrowings through the issuance of Treasury Bills and through a Reserve Bank of Zimbabwe overdraft facility, which has sent prices shooting through the roof.
If the uptrend in inflation continues, interest rates could plunge into negative territory.

It is important to note that the circumstances which prompted government to invite ESAP are pretty much the same, only that the macroeconomic imbalances are much graver and more multidimensional than 38 years ago.

Apart from fiscal deficits, sovereign debt crisis and other macro-disturbances discussed above, persistent trade deficits, rising inflation, low foreign currency reserves and an enduring liquidity crunch have added more strain to the current crisis.

The case for structural adjustment is even more imperative and urgent now given the unsustainability of thee imbalances.

I do not really agree with the most dominant view that, by cutting spending and scrapping subsidies on education and healthcare services, ESAP left social services and the livelihoods of poor households in ruins. Subsidies had to be scrapped not because they were considered a fiscal waste, but because government was faced with unsustainable fiscal deficits and could not continue driving sovereign debt to critical levels. Once a greater proportion of the value created by an economy in any fiscal year is guzzled by debts, no sooner will growth start choking, affecting several other macro-economic fundamentals including private sector investment and employment creation.

Revenue was in decline and its management framework weak, while expenditure kept mounting due to high social spending and bad economic management, particularly public financial management of parastatals, SoEs, public institutions and government departments. I tend to agree more with the World Bank’s view that ESAP should have been accompanied by measures to reduce poverty and inequalities among a majority of people who did not benefit from formal sector growth as their livelihoods were confined to the informal sector, which was already high, accounting for about 57,35 percent of overall economic activity in 1991; 62,24 percent in 1992; 59,35 percent in 1993; 56,29 in 1994; and 56,29 percent in 1995.

Half-hearted implementation

An issue often overlooked in most reviews and discussions of ESAP is that the implementation of reforms was half-hearted due to what the World Bank construed as lack of political will to reform at the top level of government.

Although profound progress was made with regards to trade and policy reform, the success of the structural adjustment depended largely on a significant reduction in the fiscal deficit to sustainable levels as well as on bringing down explicit tax rates and liberalising interest rates.

However, government was reluctant to restructure SoEs to improve efficiency and transparency, fix public financial management to improve accountability and downsize the civil service to rationalise employment costs and boost labor productivity and the quality of public services.
As a result, fiscal deficits and public domestic debt surged.

The World Bank Zimbabwe Country Assistance Evaluation report says “by 1995-96, domestic debt had increased to 47 percent of GDP, the real interest rate was eight percent on domestic debt and the interest bill had risen to nine percent of GDP”.

Mistakes in the sequencing of reforms also resulted in a debt trap. For instance, taxes were cut and interest rates deregulated prior to reducing fiscal expenditure, which bid up interest payments and crowded out spending on social services.

Today, ED  has come face to face with most of the issues that Robert Mugabe’s government left unresolved in more than 28 years:

•  more than 70 percent of SoEs are insolvent;
• civil service employment costs have guzzled nearly 80 percent of the budget since dollarisation in 2009;

• fiscal deficits are estimated to have to surged to over 10 percent of GDP in 2017;
• sovereign debt, both domestic and foreign, is estimated at be close to 50 percent of  GDP;
• interest payments on short-term domestic debt currently gobble about 30 percent of GDP.
• foreign currency reserves have fallen below two weeks of import cover since 2011;
• the formal sector has crumbled to about 40 percent of overall economic activity;
• employment creation has been negative since 2009 due to company closures and massive retrenchments;
• the trade deficit has persisted year-on-year under dollarisation since 2009;
• annual inflation rate increased from -14 percent in February 2017 to 2,5 percent by November 2017, in just eight months.
• Only five mineral commodities plus tobacco account for 80 percent of Zimbabwe’s earnings from merchandise exports;
• Foreign direct investment accounts for less than one percent of the country’s total foreign currency earnings.
These are the most pressing structural fragilities perpetuating the crisis.
The advent of political change has provided an opportunity not just for economic stabilisation through fiscal and financial adjustment but also for broader structural reforms, which involve rebalancing the economy away from the informal sector and rebuilding the real sector.
Although government made half-hearted attempts at reform in the 1990s, the gravity of the crisis at present calls for more considerate political commitment to reform and cannot be delayed at this economic juncture.
Munyaradzi Mugowo is an economist, sociologist, researcher and consultant on mineral economics, industrial policy, development economics, social policy and business strategy. He is the managing consultant of Ziopra Consulting Group P/L and can be reached