Ashly DhaniEconomy Uncensored with
Tapiwanashe Mangwiro
In the complex world of Zimbabwe’s economy, the balancing act performed by the Reserve Bank of Zimbabwe (RBZ) between growing reserves and maintaining market liquidity is crucial. Recently, the RBZ found itself compelled to release US$50 million to calm a turbulent foreign exchange market.
Such an intervention highlights the delicate equilibrium the central bank must maintain to ensure economic stability and growth.
The Interbank Market: Structure and function
The interbank foreign exchange market in this country operates on a Willing-Buyer Willing-Seller (WBWS) basis, where exchange rates are determined by market forces of demand and supply. Authorised Dealers (banks and other financial institutions) facilitate transactions between buyers and sellers of foreign currency.
This market mechanism is intended to reflect the true value of the Zimbabwean dollar (ZiG) and ensure efficient allocation of foreign exchange resources.
Under normal circumstances, the interbank market is expected to self-regulate, with minimal intervention from the RBZ. However, when disparities arise, such as a surge in demand for foreign currency or a sudden shortage, the central bank steps in to stabilise the market.
Such an intervention is vital to prevent extreme volatility that can undermine economic confidence and disrupt business operations.
The Importance of Central bank participation
Central bank participation in the forex market is essential for several reasons because intervening in the forex market, the RBZ can smooth out excessive volatility, ensuring that exchange rates do not fluctuate wildly. This stabilisation is critical for maintaining investor confidence and providing a predictable environment for businesses.
The RBZ’s role includes ensuring that there is adequate liquidity in the market and without sufficient foreign currency, businesses may struggle to import essential goods and services, leading to supply chain disruptions and inflationary pressures.
Regular and strategic interventions by the RBZ can reassure market participants that the central bank is committed to maintaining a balanced and functional forex market. This confidence is crucial for attracting foreign investment and supporting economic growth.
The presence of the central bank as a market participant can deter speculative activities that might otherwise destabilise the forex market. Speculators are less likely to engage in risky bets if they know the RBZ is ready to intervene.
Growing reserves: A double-edged sword
According to the Reserve Bank of Zimbabwe (RBZ) Governor Dr John Mushayavanhu, cash and mineral reserves backing the new currency, Zimbabwe Gold (ZiG), have risen from US$285 million to approximately US$370 million over the past three months, which provides a strong buffer against external forces.
In a recent interview, the RBZ Governor said the central bank has been “walking the talk in ensuring that ZiG is fully backed at each point in time”.
“As such, the Reserve Bank has been accumulating reserves from royalties of gold and conversion of in-kind royalties of other precious minerals such as diamonds, lithium and platinum to gold reserves.
“As a result, the total reserves have progressively increased by about 30 percent, from US$285 million as at April 5, 2024 to above US$370 million as at end of June 2024.”
However, while growing reserves is essential for long-term economic stability, it must be balanced with the immediate needs of the forex market. The recent surge in black market activity where the parallel market rate jumped from 19 to 25 to a dollar indicates a shortage of foreign currency in the official channels. Businesses faced delays in converting their cash, leading to increased demand on the black market.
The recent US$50 million injection
Resultantly, last week the RBZ announced its continued participation in the interbank foreign exchange market through a US$50 million injection.
This intervention aimed at supplementing liquidity under the Willing-Buyer Willing-Seller (WBWS) trading arrangement which was a response to the growing demand pressures in the foreign exchange market.
Dr Mushayavanhu said the bank has successfully supplemented the supply of foreign currency by Authorised Dealers to meet the increasing demand from economic agents.
The RBZ said in recent weeks, it had observed a significant build-up in pipeline demand for foreign currency at banks, which pushed them into that strategic intervention.
However, this dual objective presents a significant challenge.
Balancing Act: Growing reserves vs. oiling the market
The RBZ’s task is akin to walking a tightrope. On one side, there is the need to grow and maintain robust reserves. These reserves are crucial for national economic security, providing a buffer against external shocks such as fluctuating commodity prices or global financial instability.
On the other side is the necessity to ensure the smooth functioning of the forex market. Adequate liquidity in the market is vital for the day-to-day operations of businesses, the stability of prices, and the overall health of the economy. A shortage of foreign currency can lead to inflationary pressures, decreased economic activity, and loss of confidence in the national currency.
The RBZ should consider a more gradual approach to accumulating reserves. This method would ensure that sufficient foreign currency remains in circulation to meet market demands, reducing the risk of a parallel market surge.
Clear and transparent communication from the RBZ regarding its forex policies and intervention strategies can help manage market expectations and reduce speculative behaviour.
Improving the infrastructure of the forex market, including better monitoring and regulation of Authorized Dealers, can enhance efficiency and reduce the chances of market imbalances.
Conclusion
The RBZ faces a complex challenge in balancing the need to grow reserves with the imperative to maintain a well-oiled forex market. Strategic interventions, such as the recent US$50 million injection, demonstrate the RBZ’s commitment to this balance.
However, a more nuanced approach that includes gradual reserve accumulation, enhanced market communication, and diversification of reserve sources will be essential to ensure long-term economic stability and growth. Through carefully managing these dual objectives, the RBZ can foster a resilient and dynamic economy that meets the needs of all stakeholders.
Tapiwanashe Mangwiro is a resident economist with the Business Weekly and writes this in his own capacity. @willoe_tee on twitter and Tapiwanashe Willoe Mangwiro on LinkedIn
Bongani Ndlovu