Zim’s currency options 

Source: Zim’s currency options – DailyNews Live

Colls Ndlovu      25 September 2018

HARARE – It goes without saying that pursuant to the adoption of the
multi- currency system in Zimbabwe in January 2009 until about 2015, one
could withdraw up to $5 000 from an automated teller machine.

Over the counter (i.e. from the tellers inside a bank), you could withdraw
up to $10 000. That is how liquid the US dollar-powered financial system
was.

Against the backdrop of the foregoing, and given the ongoing currency
debate led by the newly-minted Finance minister, Mthuli Ncube, the
question which arises is: within the mooted currency choices, which one
would suit Zimbabwe best?

Ncube has given three choices, the first being the adoption of the US
dollar only and removal of the bond note, (that is to say, dollarisation
without the multi- currency system). The good thing here is the removal of
the toxic bond note which is the very currency that fuelled the current
financial crisis in the first place.

It can be argued that what would be ideal would be the removal of the bond
note, but retain the multi- currency system, thus restoring it to its
pre-bond note position.

The removal of the bond note – which President Emmerson Mnangagwa
indicated on Tuesday will remain with the multi- currency until the
economy has stabilised – from the existing multi- currency can have the
effect of restoring confidence in the Zimbabwean financial system.

This will bring certainty and stability. Dollarisation through using the
US dollar as pricing currency, but within the multi- currency system would
suit Zimbabwe better than using the US dollar only without any currency
choice for consumers.

It is worth noting that in certain Matabeleland districts, including
Beitbridge and Plumtree rural, goods and services are largely priced in
rand and there is no cash shortage because rand is readily available with
reliable supplies from the Diaspora – South Africa.

Adoption of the US dollar only will prejudice these consumers.

The second choice mooted by Ncube is the adoption of the rand through
joining the Rand Monetary Area, which currently comprises South Africa,
Namibia, Lesotho and Swaziland. Ncube needs to understand that the rand
was long adopted as a currency in Zimbabwe way back in January 2009
alongside other currencies within the multi- currency basket.

Given that South Africa accounts for 80 percent of Zimbabwe’s foreign
trade, it makes logical sense for Zimbabwe to join the Rand Monetary Area
anyway.

The risk with joining the Rand Monetary Area though is that South Africa
is headed for its massive land expropriation exercise.

Invariably, this will have a negative feedback loop to the rand.

The rand will be affected negatively by the land reform exercise in South
Africa and that can destabilise the South African economy as happened in
Zimbabwe which went through the same process beginning 2000.

Consequently, Zimbabwe is likely to suffer twice, due to the two
countries’ land expropriation programme if it joins the rand zone.

Since the rand is already formal legal tender (official currency) in
Zimbabwe within the multi-currency system, it would be better to merely
use it, de facto, as a main pricing currency (denominate all transactions
in rand) without necessarily formally joining the Rand Monetary Area.

This could help Zimbabwe in the event that the rand starts depreciating
rapidly (as happened to the Zimbabwe dollar during the land reform period
leading to hyperinflation and the economic meltdown).

If Zimbabwe starts pricing its goods and services, including government
services, in rand, but doing so within the multi-currency system and
without formally joining the Rand Monetary Area, this could be the best
option for the country.

Not only will this enable Zimbabwe to retain currency and monetary
stability, but it would also ensure that the country can still switch to
other currencies in the event that the rand depreciates rapidly due to the
now certain land expropriation exercise in South Africa.

If Zimbabwe decides to use the rand as a pricing currency within the
multi-currency system, it would benefit from the SIRESS system (Sadc-wide
rand payment system that was developed by Sadc central banks), which
ensures that rand-denominated transactions within Sadc replicate those
occurring inside South Africa itself.

In other words, paying someone in Johannesburg is the same as paying
someone in Harare (no conversion to dollars, no foreign clearing agent in
London or New York which entail costs).

This brings us to Ncube’s third proposal which alludes to the adoption of
an old but new currency called the Zim dollar, supposedly backed by
adequate foreign exchange reserves.

Not only did Ncube raise this as a potential choice, but he also asserted
that this is the ultimate choice, presumably in the medium to the
long-term.

The problem with the defunct Zim dollar is that it is a currency that has
long lost the confidence of the markets (consumers and businesses).

Consequently, the pronouncement that in the medium to long-term the Zim
dollar would be adopted is a kiss of death insofar as the financial
markets are concerned. This is likely to spook the markets, undermine and
discredit whatever currency choice is made now.

Investments are futuristic by nature. Therefore, if investors were to
invest now in a US dollar or rand-denominated market, and on the back of
their heads they know that these currencies are only temporary since they
will be removed when the Zim dollar ultimately returns, this would have
the effect of destabilising the Zimbabwean economy now.

Ncube also made reference to adequate reserves backing the currency (Zim
dollar). The question of whether there could be adequate reserves backing
a currency was long answered during the Asian financial markets crisis in
the late 1990s.

The Asian tigers (Singapore, Hong Kong, South Korea and Taiwan) and other
Asian giants like Japan and Malaysia tried in vain to intervene in their
financial markets using their foreign currency reserves in a futile
attempt to defend their currencies.

Japan famously used up to US$60 billion of its foreign exchange reserves
trying to defend the yen, but all to no avail. Malaysia’s prime minister
Mahathir Mohammad viciously attacked hedge fund manager George Soros
accusing him of currency manipulation when the Malaysian currency was
under pressure.

What all this shows is that reserves are never adequate to defend a
currency.

It also raises the question: what exactly can be deemed adequate foreign
exchange reserves for a country like Zimbabwe?

The generally accepted definition of what constitutes adequate foreign
exchange reserves is the so-called Greenspan-Guidotti rule.

This rule asserts that the foreign exchange reserves of a country should
equal its foreign exchange debt obligations maturing within a year.

In other words, the ratio of foreign exchange reserves to debt obligations
maturing in a year should be one. To apply this rule in Zimbabwe, one
would have to calculate the country’s external debt (inclusive of its
imports) that is due within one year. As to whether this level of reserves
can adequately back the country’s currency, the resounding answer is no.

Reserves have a limited capability of defending a currency. The value of a
currency rests on the market’s confidence in that currency.

This raises fundamental questions about whether the Zim dollar willhave
the confidence of the market. Of course, this is a futuristic event and
therefore unknown and unknowable.

But judging by the history of the Zim dollar and especially given the fact
that it previously depreciated to zero and was subsequently demonetised,
it will take ages for the markets to have confidence in it. What this
means is that the Zim dollar will remain a very vulnerable currency with a
high propensity to depreciate. Its recent history serves as its Achilles
heel.

One other thing that Ncube alluded to is the relaxation or liberalisation
of exchange controls. This one is a long overdue regulatory exercise. The
relaxation of exchange controls will make Zimbabwe a good destination for
investors knowing that they can easily repatriate dividends to their home
countries.

The present exchange control regulations are counterproductive and
restrictive for a country that sings the “Zimbabwe is open for business”
mantra.

The removal of exchange controls would go a long way towards making
Zimbabwe a “go to” investment destination. It is curious that no mention
to date has been made regarding the relaxation of the bank regulatory
requirement which prescribes that banks should put aside up to $100
million as capital adequacy.

In conclusion, Zimbabwe should remove the bond note and use the US dollar
as pricing currency within the existing multi-currency system.

Using the rand as a currency for the pricing of goods and services
(including payment of salaries) by both the government and private sector
will be good if this is done within the multi-currency system and without
formally joining the Rand Monetary Area.

If Zimbabwe wants to use the rand as a pricing currency, the country can
start doing so with immediate effect. The SIRESS system is already in
place to facilitate rand transactions.

The debate about the potential return of the Zim dollar should be
jettisoned for now given the poisonous nature of the Zim dollar.

Any mention of bringing back the Zim dollar is likely to spook the
financial markets and scare away investors. Ncube should make it clear and
unequivocal that the debate about the future return of the Zim dollar will
only start after meeting the government’s 2030 objectives.

The government must deliberately start telling the markets that the Zim
dollar is not part of the short to medium currency solution as Mnangagwa
did on Tuesday.

If currency reforms are undertaken as discussed and suggested above,
liquidity will return to the financial system. People will be able to
withdraw from automated teller machines up to $5 000, while they can
withdraw up to $10 000 from bank tellers just like prior to the
introduction of the bond note.

Of course, revival of production and exports, and financial inflows amid
economic stability, are critical to currency reforms.

n Ndlovu is an economist formerly with the South African Reserve Bank and
was winner of that institution’s highest honour, The Governor’s Gold
Prize, in 2014