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THE return of something close to exchange rate stability last week, extreme stability by recent Zimbabwean standards, was not only welcome, but built on economic and market fundamentals, fundamentals that now have to be maintained by the authorities.
We went on a hair-raising ride of around four weeks, from somewhere near May 21 to Monday last week in the official interbank exchange rates, with the black market exploding a little before.
Then last week we suddenly moved into vary calm waters, and even saw the local currency firming slightly on Thursday last week as the markets started some fine adjustments.
Between Friday the week before and Friday last week, the Zimbabwe dollar just slipped 3,99 percent in value, showing the stability that suddenly appeared last week.
When the Ministry of Finance and Economic Development ordered the switch first to a pure Dutch auction, and then to the weekly limit of US$5 million, we were warned that there was likely to be four weeks of severe turbulence while the markets adjusted to the pure market system now put in place, one where there was no possibility of any massaging by the authorities or anyone else.
The auction moved from being the source of a lot of the foreign currency needed by importers to simply a price-discovery process, that is a way to find out just how the markets valued a US dollar.
That price would then largely set the interbank market, another independent market governed purely by market forces.
A process was then put in place to allow the interbank market, which is run by the banking system, to obtain wholesale foreign currency for onward sale to bank customers, and that wholesale market forced banks to think competitively.
Every bank needed to get very close to the mean for that week, since those banks who managed to buy currency a little more cheaply would be considerably more profitable than those banks who paid a bit too much. The actual prices bid showed that the measures to prevent collusion between banks were successful.
At the same time the authorities took a number of measures to prevent the pool of local currency expanding by very much.
The Finance Ministry has for almost five years run the Government accounts under very tight fiscal discipline, that is banning all borrowing except for a small percentage of the capital budget where there is an immediate direct income source that can fund the borrowing.
But that did leave other sources. A major one for some time has been the private banking sector in effect creating local currency through very generous loans to customers.
The imposition of high interest rates has made that expensive, but there were still a lot of loans remaining in the system having to be paid off. But the loan books are diminishing.
At the same time there was a degree of strain, especially when exchange rates were moving south quite fast, on the Reserve Bank of Zimbabwe when it came to buying the 25 percent of export earnings that exporters are obliged to sell as soon as it arrives. The model of recycling the auction income to pay for the export funds was simply not working well.
The Finance Ministry then took over both the foreign national debt, which is large, and the right to buy the 25 percent of export earnings so it had significant funds to pay what we owe.
The danger of local currency growth through buying the export earnings was eliminated, since the Government is compelled by law to budget tax revenue to pay Government debt. In fact it is part of the first slice of taxes that must be budgeted, along with civil service pensions and the Parliamentary, judicial and Presidential salaries.
It is these measures that eventually dried up the supply of new local currency needed to keep the exchange rate in free fall.
There simply is not enough spare local currency around to bid willy-nilly for foreign currency, so while the rectified exchange rates remain, and there will continue to be some modest drift, hopefully in both directions, major jumps are now over. It is worth remembering that while Zimbabwe has been getting a lot of high marks for the economic reforms of the Second Republic, the need for a neutral system of generating what were called “more realistic” exchange rates was highlighted as a final reform, and this appears to have what happened.
As part of the basket of recent exchange rate reforms, the Finance Ministry also removed the obligation of Zimbabwean businesses of surrendering any of the foreign currency they received in domestic transactions.
This completely delinks the arrival of new foreign currency earned from exports, the vast bulk, from that currency then circulating around the domestic economy.
All non-business foreign currency has to come from the pool of receipts of exports, but once it is in the country whether it rotates a few times or not at all does not increase or decrease the total pool.
With estimates that around 70 percent of local transactions are done in foreign currency, a figure that must use the VAT percentages to have any pretence at accuracy, this means that a lot of local businesses can earn the foreign currency they need for imports, or at least a large slice of their imports, from the payments made by net exporters buying goods and services in Zimbabwe.
A major indication that the authorities believe the stability now present in the foreign currency markets is sustainable came on Friday when the Finance Ministry announced its decision that it wants a lot of taxes in local currency.
Not only must the taxes normally payable in local currency be paid in local currency, and these taxes are on business transactions using local currency, but half the taxes normally payable in foreign currency must now be paid in local currency. There are no exceptions and businesses need to sell foreign currency to the Reserve Bank if they do not have enough local currency.
This implies, very strongly, that the Finance Ministry which, after all, raises taxes to fund Government expenditure, is highly confident that what it collects this week in local currency will lose minimal value before it is spent.
The laws of supply and demand mean that the growing inflows of foreign currency, adding to its supply, are matched by the local currency demand, and the Finance Ministry and the Reserve Bank know that total in the whole monetary system very precisely, which explains why they are so sanguine about present rates.
The move also makes businesses think carefully about rushing to black markets or fiddling official markets to buy foreign currency, since they have growing debts in local currency.
This reduces the pressures a bit more. It also starts the long journey that many economists now see as desirable of moving back towards a single currency, the local currency, with all the hard lessons we have learned since we blew up that local currency during hyper-inflation locked in.
leeroy
Online Reporter