It is uncontested that organised government is needed to lay the foundation for economic development. Sustainable development cannot occur without a public infrastructure that establishes and facilitates markets via the provision of legal protection of private property and marketable ideas, education and basic research, national defence, a transportation system, and a stable currency.
With the harmonised elections fasting fading in the rear view mirror, one would think that a short honeymoon of sorts was in order for the victor. Unfortunately, the gathering economic headwinds that have been festering for some time are now threatening to come full circle bringing the economy to a crushing halt, giving no respite to the newly elected president. The good optics in the shape of new cabinet ministers like Olympian swimmer Kirsty Coventry and academic and corporate executive Mthuli Ncube, do little to hide the scale and complexity of the challenges facing the country, something which may afford losing presidential candidate Nelson Chamisa a wry smile in hindsight.
While politicians, at least for a short time can pass off as masters of illusions, the fundamentals always bear out in the medium to long run. The inescapable reality is our economy has in the past five years been driven by expansionary policies that while reversing the threat of deflation now threaten an inflationary spiral reminiscent of our recent past. The tools brought to bear on the economy in an effort to resuscitate it are in and of themselves not the problem. It was the context in which they were applied and degree to which there were indulged that find us in circumstances fraught with uncertainty. The structural configuration of our economy and its relatively low integration with the global economy made it vulnerable to the choice of instruments policy makers chose to exercise. If the policy actions that authorities undertook to boost aggregate domestic demand were to have the desired effect, deep structural reform was a prerequisite. This did not happen.
On the monetary side, in 2014 and 2015, the central bank was seized with managing a fragile financial sector that was reeling from the effects of non-performing loans sitting on bank balance sheets in what appeared to be a deflationary environment. Monetary authorities would later argue that what appeared on the surface to be deflation was in fact merely market correction in prices in the economy. The creation of entities such as the Zimbabwe Asset Management Corporation in some measure allowed financial sector to detoxify their balance sheets of non-performing loans. As at 2018 June, it was reported that over $1 billion in non-performing loans had been taken over by ZAMCO. While
the dominant perspective has been that central authorities have been guilty of mishandling the economy the role of individual banks in another episode of economic mischief must also be noted especially in light of the dollarised economy that currently prevails.
When banks lend they create new money. Money which is in addition to the original deposit and in the case of a dollarised economy, money not backed by the domestic central bank. If the loans do not perform as expected, the bank’s equity is meant to provide a cushion against the bad loan experience. But this is the case to the extent that the bad loans do not exceed a certain threshold. Beyond that threshold the bank will struggle to remain viable.
This was the case that the central bank had to contend with and instead of acting punitively sought to support banks except in extreme cases and allow them breathing space to trade out of their black holes. Central bank authorities almost simultaneously engaged in a number of initiatives in an attempt to stimulate economic activity within the economy targeting productive sectors with numerous quasi fiscal measures.
One of the more significant initiatives was to support the payment of creditors through the issuance of treasury bills to the tune of $2 billion a measure meant to instil confidence in the markets and stimulate activity. But some creditors chastened by years of government default, some of whom had gone for up to a decade owed money by government through the central bank traded out of the economy discounting the treasury bills and making for the exit. This spooked the markets and the draining of hard currency within the formal banking sector accelerated. This would mark the beginning of almost indiscriminate recourse to treasury bills and maintaining a bank overdraft facility with the central bank by government.
The effect of a change in monetary policy cumulates through time. In the initial stages, there’s a slight effect and as time passes, the effect becomes more pronounced a boomerang effect of sorts. The re-appearance of cash shortages and cash withdrawal limits accelerated the decline of US dollar cash balances in the banks. The central bank battled to contain the emerging crisis while also trying to support exporters through a number of initiatives. Examples came to include introducing an export promotion and diaspora incentive scheme that began with a 2,5-5 percent incentive scheme. The introduction of a priority list in the allocation of the increasingly limited supply of nostro balances would initially bring a measure of sanity. But what began as a priority list to prioritise critical imports and support exports over time morphed into a subsidy as the market premium moved from around 1:1.15 to the present 1:2.35. Exporters were now essential.
On the fiscal side, government from 2014 sought to support production in the economy through various legislative and fiscal support mechanisms. Measures such as Statutory Instrument 64 of 2016 sought to create space for local industry to operate by encouraging import substitution by removing a range of products from the Open General Import Licence. Government ramped up its intervention through fiscal support for productive sectors such as agriculture with the 2018 budget allocating in excess of $800 million dollars for the presidential input scheme and command agriculture up over 385% the previous year.
These policies, while emphasising production, paid little attention to the productivity aspect of this production. The support would extend to government guaranteeing a market through providing a minimum purchase price in some sectors. Taking maize as an example the government offered to buy maize at $390 a tonne, turning around to industry and offering the same maize at between $240-270 a tonne through the Grain Marketing Board (GMB). Assuming handling costs of $50 a ton, the government was making a loss of $170 a ton. Maize in Zambia was costing around $160 a tonne. GMB reported suffering a loss of $208,968,178 for the 2017 financial year due to the maize subsidy.
Sometimes deity curses mankind by granting his wish. The cumulative effect of these measures was to have the intended effect of increasing capacity utilisation in the economy from below 35 percent in 2014 to over 65 percent in 2017. But the foundation of this increase on the back of mostly government debt and exporters hard currency surrender requirements were tenuous and ultimately unsustainable. But the method of stimulation would stoke the embers of inflation and introduced price distortions within the economy in two ways. It stimulated aggregate demand in the economy but altered consumption patterns on the back of these subsidies.
It introduced price instability as the increased effective demand manifested in an increased appetite to import, put pressure on the country’s current account. The availing of nostro support at the official 1:1 was introduced at a time when the market premium for US$/RTGS was in the region of 1:1.15. Today market premiums are anywhere near 1:2.05 and rising. This would imply that essential imports like fuel, electricity, wheat and crude cooking oil are essentially be sold into the market at half price. The demand for all these imports (with the exception of electricity which has declined due to increased domestic generation) is on the increase. Industries that relied on inputs that were being availed at 1:1 ratcheted up production. It meant that exporters at the behest of monetary authorities were literally subsidizing prioritised imports.
The traditional problem whereby using subsidies and protection policies, entrepreneurs pocketed financial incentives but failed to do the hard work of producing competitive products became a reality. On maize, assuming a yield of 5 metric tonnes per hectare, the gross margin from the guaranteed price of $390 per metric tonne was north of 80 percent. With the exception of monetary authorities, government’s other policy initiatives did not discriminate on the basis of export competitiveness in availing support. Instead they became state industrial projects with little competition amongst themselves and no requirement to export. As capacity utilisation capacity went up driven largely by producers servicing the domestic market, the increase in raw material requirements and consumptive spending put pressure on the current account, even as exports were on the rise. The rise in exports could not compensate for the even higher rise in imports. The growth that had been mostly generated by government debt did not translate into a more genuinely productive and competitive economy, as market actors alarmed by the massive debt build up and jump in money supply presaged that inflationary pressures would rise, began taking defensive positions.
Banks by accident or design have kept their loan to deposit ratios below 40 percent, loading up instead on government treasury bills, a move that if real activity comes under pressure as is already the case in some instances, will give banks some measure of protection. Consumer loans however, making up to 30% of bank loans could become a source of vulnerability for the financial sector. The rest of the macroeconomic is dominated by negative indicators. A negative formal savings rate only serves to increase vulnerabilities to economic shocks. Low hard currency reserves and the country’s persistent twin deficits in the face of robust demand limit options available to policy makers. Not-withstanding the export incentives, the hard currency surrender requirements fostered on exporters in the face of weakening bond/US$ rate amount to a stealth tax on productivity for exporters.
With the weakening RTGS/US$ driving price decisions and speculator behaviour now on the rise, it is hard to see how the economy can avoid a hard landing. As authorities scour the world’s major financial capitals, any measure of financial assistance will almost certainly be tied to deep structural reform. Government right sizing, ease of business reforms, the roll-back of state subsidies and protection policies will likely be tied to any economic relief proposal. The days of austerity will soon be upon us, whether driven by currency shortages or the conditions tied to any rescue package.