Economy desperately needs a market exchange rate

Victor Bhoroma.

IN its maiden monetary policy for 2023, the Reserve Bank of Zimbabwe (RBZ) increased the retention threshold for all exporters from 60% to a standadised 75%. The policy also affects firms listed on the Victoria Falls Stock Exchange (VFEX), which previously retained 100% of their export earnings.

In the same statement, the apex bank increased the threshold for retained foreign currency on domestic sales from 80% to 85%.

The announcements also meant the suspension of the incremental export incentive scheme, which had been pivotal in incentivising export growth.

For the past five years, the central bank has been toying with export retention levels to manage foreign currency availability and appease various business groups.

Ballooning forex earnings

In 2022, Zimbabwe earned a total of US$11,566 billion (Up from US$9,863 billion in 2021) in foreign currency with export proceeds growing by 16,5% to US$6,742 billion and Diaspora Remittances increasing 16% to US$1,658 billion. Loan proceeds (mainly for the financing of Tobacco) increased by 16,5% to US$1,021 billion.

The country is benefiting from the rally in mining commodity prices on the global market.

In the past 10 years, Zimbabwe is receiving an average of US$7,3 billion in foreign currency before informal earnings and smuggled export earnings of commodities, such as gold are considered.

It is estimated that gold worth at least US$1,5 billion is smuggled out of Zimbabwe by Politically Exposed Persons (PEPs) and international dealers with links to the state.

The same illicit trade also characterises other commodities such as diamonds and black granite.

Despite this growth in foreign currency receipts, the country is stuck in unending policy induced foreign currency shortages on the formal market.

Local deposits

For the year 2022, foreign currency accounts (FCA) deposits in the banking system accounted for 64,2% of total deposits, with the remainder being Zimbabwean dollar deposits.

This means that foreign currency deposits have soared to over US$1,875 billion, from less than US$400 million in 2019 when the Zimbabwean dollar was relaunched.

The growth can be attributed to the growth in exports and international remittances.

 However, this points to the negative impact of the current exchange rate policy on the account holders for them to liquidate from real money to the local currency unless if it is neccesary.

Avoiding reforms at a cost

Zimbabwe has not had a consistent currency and foreign exchange policy for decades.

The auction system (launched in June 2020) failed to create foreign exchange allocation efficiency or instill confidence in the market due to the controls placed by the central bank on the exchange rate, the allotted amounts and winning bidders.

Similarly, the interbank market, which was reintroduced in May 2022 (after the failed attempts of August 2008 and February 2019) has not helped to bring willing sellers on the market.

In recent history, the Zimbabwean economy collapsed in 1999-2000, 2006-2008 and 2019-2020 due to hyperinflation induced by excessive printing of the domestic currency and artificial demand of foreign currency.

 The current preference to trade in hard currency points to lack of trust in the central bank’s unsound foreign exchange policies.

Dollarised economy

The local economy has firmly dollarised with the Zimbabwe Statistical Agency (Zimstat) pointing that the US dollar now constitutes 77% of local transactions with the remaining 23% attributable to rate and statutory payments, grocery payments in big retail outlets and airtime recharge.

The main cost drivers to local production, which are fuel and power, are now being paid in foreign currency.

This means that producers need entirely all their forex earnings to finance their operations and the Zimbabwean dollar is as good as dead.

IMF recommendations

Recommendations from the International Monetary Fund (IMF) in the past four years have fallen on deaf ears.

The multilateral institution pointed that the central bank was responsible for the hikes in foreign currency exchange rates on the parallel market through quasi fiscal operations that lead to growth in money supply and put pressure on the limited foreign currency.

Part of the recommendations from IMF point to the need for liberalisation of the foreign exchange controls as the key to financial market and economic stability.

The central bank was urged to develop a schedule for the removal of foreign currency allocation and allow exporters to sell their earnings on the interbank market through commercial banks.

All these recommendations follow what other developing nations practice in terms of foreign exchange trading.

Dent on local productivity

Zimbabwe relies on food imports from regional and global suppliers for food security by importing grain and cereals worth at least US$1 billion annually despite existence of arable land and water bodies.

The exchange rate remains one of the key constraints faced by local farmers who buy inputs and incur costs in foreign currency.

Cotton, maize, soya, wheat, sunflower and traditional grain farmers must work with producer prices set by the government in local currency.

The effect of inflation means that viability in farming is compromised by late payments and unsustainable input costs, which are pegged in US dollar.

The source of the problem is the spread between the controlled auction rate and the free-market exchange rate.

A liberalised and truly reflective foreign exchange market can address the challenges faced by farmers and restore viability in agriculture.

Locally manufactured products already face competitiveness challenges on the export market because of the high production costs in the economy.

 The 25% surrender requirement on all exports and 15% on local sales act as a tax to business operators.

Manufacturers are now diverting most of their products from export markets to the informal market where they can be paid US dollar in cash, while evading the stringent foreign exchange controls and tax obligations.

With costs of production aligned to the parallel market, producers do not have any incentive to be fully tax compliant, to fully formalise their operations and boost productivity.

 There would be no need to evade taxes in foreign currency, stash loads of foreign currency at business premises, get rid of excess local currency and adopt multiple pricing models if the exchange rate was market determined.

The exchange control measures are also hurting exports of manufactured merchandise (now less than 4% of export value), in a period when Zimbabwe needs to prepare for the Africa Continental Free Trade Area (AfCFTA).

Dog chasing its tail

Changing foreign exchange retentions without reforming the entire foreign exchange regime is akin to a dog chasing its tail.

The central bank is aware of what needs to be done to ensure economic stability in Zimbabwe.

The absence of an efficient foreign exchange market has dragged on for decades with the central bank firmly fixed on controlling the exchange rate, while on the other hand funding various quasi fiscal operations that increase money supply and stroke inflation.

Emulating other Sadc countries

Zimbabwe earns more foreign currency (per capita) than regional peers, such as Namibia, Botswana, Malawi, Zambia, Mozambique, Tanzania and Kenya.

These countries do not have endemic foreign currency shortages because they have market driven foreign exchange markets.

A closer look at Zimbabwe’s neighbours shows in South Africa and Namibia export proceeds must be repatriated within six months and exporters must sell 100% of their foreign currency proceeds to a bank or authorised dealer within 30 days of receiving the earnings or keep the export proceeds indefinitely in a foreign currency account.

In Mozambique, export revenues must be repatriated within 90 days from the date of shipment and 30% of those export proceeds must be converted to Metical.

However, exporters can keep 100% of their earnings in a local foreign currency account.

In Zambia and Botswana, there are no foreign exchange controls.

The common feature for economic stability amongst all these countries is the fact that their central banks do not engage in quasi fiscal operations.

 Similarly, the foreign exchange mechanism is market determined (not manipulated by central banks). Hence, foreign currency shortages can be managed through open market operations. 

Addressing central bank justifications

It is true that foreign currency is a scarce resource, which needs to be shared and used productively in every economy on the global scene.

However, the sharing can only be efficient if accompanied by a market determined rate, where buying and selling margins are very thin to close huge arbitrage opportunities that are rife in Zimbabwe.

The central bank needs to learn from past mistakes where fixing the exchange rate led to market instability and unintended consumption subsidies running into billions of dollars (current debt).

Exporters and foreign currency holders need to be allowed to trade their foreign currency at market determined rates.

The central bank must emulate basic tenets of central bank intervention (open market operations) to mop up excess liquidity in order to manage inflation instead of soft-pegging the exchange rate, which has never been a sustainable intervention.

Inflation is largely a function of money supply in Zimbabwe and the biggest underwriter to stability is the central bank reform, not a controlled exchange rate.

Bhoroma is an economic analyst. He holds an MBA from the University of Zimbabwe (UZ). — [email protected] or Twitter @VictorBhoroma1.


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