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Achieving an efficient interbank market

24 Mar 2020 at 18:32hrs | Views
The Zimbabwean government announced that it was going to introduce a managed floating exchange rate system in order to manage exchange rate volatility. The move is also aimed at bringing transparency and efficiency to the interbank market which has been dogged by liquidity challenges since its February 2019 launch. As of December 2019, only US$1.5 billion had been traded on the interbank market versus local demand exceeding US$7 billion per year. To achieve efficiency, an electronic foreign currency trading platform based on the Reuters system will be put in place. It is envisaged that the platform will allow banks and Bureau de Change houses to trade foreign currency freely while restricting the Reserve Bank of Zimbabwe (RBZ) role to monitoring and intervening only when necessary.

Despite liberalizing the interbank market, the government gazetted General Notice 583 of 2020; an exchange control measure suspending the fungibility of all dual listed shares trading on the Zimbabwe Stock Exchange (ZSE). The latest exchange control directive will affect the exchange of Old Mutual (OMU), PPC (PPC.zw) and Seed Co International (SCIL) shares. However the directive will not apply to trades done on or before 13 March 2020 provided they are settled by 18 March 2020. The regulations are accompanied by a Securities and Exchange Commission (SECZ) audit on all transaction inflows for dual listed shares conducted on or before 1 June 2019. The suspension of fungibility on dual listed shares was once effected in May 2008 before the Zimbabwean Dollar crashed to record levels in the months that followed. The latest move will somewhat halt the outflow of foreign currency through the official financial system but it falls short on ending the calculation of the Old Mutual Implied Rate (OMIR) which can still be calculated using relative share prices of the Old Mutual Counter.

The press statement by the treasury points that commercial banks will be market makers and the Reuters system will generate daily exchange rates as opposed to the current situation where the central bank determines the interbank rate and wields unfettered control on the allocation of foreign currency.  The directive compels the central bank to terminate the Gold incentive to local producers; to report all foreign currency inflows to the treasury and to release all surplus foreign currency onto the interbank on a daily/weekly basis. Surplus being classified any amount exceeding the requirements for servicing external debt and priority government uses. Further the central bank was directed to gradually end quasi fiscal activities of allocating foreign currency to various importers through Letters of Credit (LCs) and let all importers access foreign currency via the interbank market through their respective banks. The move by treasury is aimed at clipping central bank wings amid accusations by local producers that foreign currency is not being allocated efficiently and the shortages are being caused by sub-interbank rate privileges extended to selected importers on the local market especially petroleum companies.

In 2019, Zimbabwe received export earnings of over US$4.2 billion, International remittances worth US$1.2 billion and Foreign Direct Investments totaling US$259 million. Of the export earnings figure, the central bank retained over 35% (US$1.5 Billion) and it is this portion of surrendered earnings that the treasury now wants accountability on. The central bank has been reluctant to let the interbank market to freely float as that would mean printing more money to cater for surrendered earnings while also fuelling inflation rate. A more sustainable way to manage inflation is to end subsidies of various commodities that saw the central bank inject more than Z$5 billion into the economy in 2019 alone.  However it is unlikely that subsidies will be cut considering the political considerations behind their existence. Foreign currency demand will however remain high as local production plummets due to a number of supply side constraints. The local retailing of fuel and critical raw materials in foreign currency will further add pressure to the little foreign currency availed on the interbank market. Zimbabwe's foreign currency woes have also been driven by growth in broad money supply (Over Z$34.5 billion as of December 2019) and decline in market confidence which forces local producers and consumers to seek shelter in either the US Dollar or South African Rand. As such reducing money supply growth is an efficient way of achieving stability on the interbank market.

Exchange control liberalization is the panacea to the low confidence currently prevailing on the financial markets. Zimbabwe operated under such a regime during the Government of National Unity (GNU) period of 2009 to 2013 and the benefits were abundant for the economy. Despite running under a recurring current account deficit averaging US$3.75 billion in those 5 years, Zimbabwe did not face any foreign currency shortages. The shortages started after the 2013 elections as a result of capital outflows (Confidence biased externalization) and the subsequent money printing that ensued after the RBZ Debt Assumption Bill of August 2014.  
In Sub-Saharan Africa; Zambia, Ghana, Botswana, Kenya and Rwanda are some of the countries that have liberal foreign exchange regimes which are backed by floating exchange rates, yet they do not face crippling foreign currency shortages faced by Zimbabwe.

Another way to achieve an efficient interbank market would be to allow exporters to keep 100% of their foreign earnings while repatriating all the export proceeds to the local financial market within a specified time (Say within 120 days). The move will ensure stability for the local currency provided the central bank terminates all consumption subsidies and implements measures to deal with extreme capital outflows. As of December 2019, Foreign Currency Accounts (FCA) balances totaled US$785 million. It is estimated that over US$1 billion was stashed in foreign banks by local exporters in 2019, while the Zimbabwe Anti-Corruption Commission (ZACC) pointed that over US$7 billion in cash and properties have been stashed in foreign countries by various government officials and private players. A freely floating exchange rate is one way to ensure that most of these stashed funds are repatriated back to the formal market and help grow the local economy.

It is fair to point that Zimbabwe's interbank market has always been managed by the central bank and its efficiency is very much dependent on the amount of foreign currency pumped into the market by the central bank going forward. Market determination of exchange rates is central to the gradual elimination of the powerful parallel market, which currently offers more than double the rate prevailing on the interbank market. Ideally, the central bank should play no role in foreign currency allocation (independently or otherwise) and the government should meet its foreign currency needs via tax revenues which are partly being charged in foreign currency as well. A managed exchange rate means the central bank will continue to play a role on the interbank market while maintaining export surrender requirements. Nevertheless it would be beneficial if the central would be transparent in the allocation of its foreign currency while adhering strictly to dumping all the surplus foreign currency earnings on the interbank market on a daily or weekly basis as directed by treasury. The use of free funds to import various goods and services is yet another tacit admission to re-dollarization as not many producers will hustle to get foreign currency and sell their stock in a depreciating local currency. Exchange rate liberalization will definitely result in the spike of prices in the short term but it provides a sustainable way of market price discovery and channeling of all foreign currency to the formal market in the long term. After all, the 2009-2013 free market policies provide evidence that the market can self-regulate with limited central bank intervention.

Victor Bhoroma is a freelance economic analyst. He holds an MBA from the University of Zimbabwe (UZ). For feedback, mail him on vbhoroma@gmail.com or follow him on Twitter @VictorBhoroma1.

Source - Victor Bhoroma
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