RBZ moves in to defend currency

THE Reserve Bank of Zimbabwe (RBZ) last week moved to contain growing inflationary pressures and exchange rate volatility by hiking the bank's policy rate from 40 percent to 60 percent.

Resurgent inflationary pressures came at a time when authorities had been successful in taming inflation from a post-dollarisation high of 837,5 percent in July last year to a two-year low of just over 50 percent in June this year.

The rate of increase in prices has largely been driven by a widening parallel market rate.

However, a recent meeting between the Government, RBZ and business on October 11, 2021 has helped stabilise the parallel market exchange rate.

RBZ governor Dr John Mangudya is confident stability would anchor inflation expectations and restore the downward inflation trajectory the economy has experienced since July 2020 after the central bank had introduced the foreign currency auction system.

Market watchers believe that a higher policy rate, which determines the level of interest rates in the entire economy, would moderate credit creation, which has seen growth in bank deposits of more than 250 percent over the last 12 months.

The bank policy interest rate is set by central banks to influence the evolution of the main monetary variables in the economy, including consumer prices and exchange rate or credit expansion, among others.

As such, it determines the level of interest rates in the economy, since it is the price at which private agents, mostly banks, obtain money from the central bank.

Banks then offer financial products to their clients at an interest rate that is normally based on the policy rate.

The apex bank said hiking the policy rate would result in positive real interest rates that are necessary to drive money market savings.

After its last bi-monthly meeting on Thursday, the Monetary Policy Committee (MPC) unanimously agreed to increase the bank policy rate to 60 percent from 40 percent with immediate effect.

"The measure is expected to result in positive real interest rates which are critical to foster savings in the economy," said Dr Mangudya in a statement on Thursday.

The MPC agreed to increase the interest rate on the Medium Term Bank Accommodation - a fund designed to provide low-cost financing to industry - from 30 percent to 40 percent.

Economist Professor Ashok Chakravati said Zimbabwe had witnessed unsustainable growth in liquidity over the past 12 months.

As such, by making borrowing pricier, credit creation would be slowed down, helping to contain inflation and exchange rate volatility.

"If you look at total bank deposits in the economy, they have gone up by more than 250 percent in the last 12 months. That means there is too much bank lending and there is too much creation of credit in the economy," said Prof Chakravati.

"So, when that level of credit is created in the economy, it is going to affect the (Zimbabwe dollar) exchange rate . . .

"As such, basically, the idea is to make sure that credit increases at a rate that is sufficient to support the production and economic growth of the economy at a high level.

"That is the purpose of all these measures: To bring a bit of a squeeze on the creation of credit so that inflation can come down."

Further measures to control liquidity in the economy involve increasing statutory reserve requirements for demand/call deposits from 5 percent to 10 percent, while maintaining the rate at 2,5 percent for savings and time deposits.

In order to tighten reserve money, the apex bank will seek to reduce the quarterly growth in reserve money targets from 20 percent to 10 percent for the fourth quarter of 2021 and the first two quarters of 2022.

"The decision to review the reserve money growth targets was informed by the reserve money growth outturn of 9,3 percent for the quarter ending 30 September 2021," Dr Mangudya said, adding the bank would also continue to refine its open market operations (OMO) instruments for optimal liquidity control.

Additionally, the bank's MPC recommended that there should be consistency and synchronisation of the Government's payments and the liquidity management programme of the bank to ensure effective management of the level of money in the economy.