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Taming high inflation, economic priority

09 Mar 2021 at 22:31hrs | Views
Despite the significant fall in annual inflation from 363% (In January) to 322% for the month of February 2021, prices for goods and services in the economy continue to increase marginally in every month. This is depicted by the rise in Consumer Price Index (CPI) to ZW$2699 in February 2021 from ZW$2609 in January 2021 and ZW$640 in February 2020. The price index rose highest in July 2020, but was increasing consistently in each month of 2020. Prices for consumer goods and services have been tracking upwards in line with the loss of value for the Zimbabwean Dollar against the US Dollar and recalibration of the economy in line with the return of the multi-currency regime. Currently the local currency is trading at ZW$83.89 to US$1 on the formal auction market and ZW$120 on the parallel market. The major driver of inflation in the country has been the growth in money supply which is not in sync with economic growth. The government has set a target of reducing inflation to less than 10% by December 2021 and limit money supply growth to within 22.5% per quarter. Taming triple digit inflation remains the government's key priority on the road to economic stability and recovery.

The CPI measures the average change in prices (over a period of time) that consumers pay for a basket of basic goods and services on the market, also referred to as inflation. It examines the weighted average of prices for basics such as accommodation, transportation, food, utilities, insurance and other needs. It is calculated by taking price changes for each item in the predetermined basket of goods and services and averaging them.

The CPI is one of the most frequently used statistics for identifying periods of inflation or deflation in an economy. CPI helps to gauge the impact of the reported changes in inflation levels to the actual cost of living for citizens in a country and by extension the effectiveness of government economic policies. The consistent increase in CPI from 2020 into 2021 shows the underlying instability and weakness in fundamentals that characterize the local economy. Cost of production in the local market marginally increased in January due to increases in the prices of fuel, taxes and levies, utilities and property rentals. Similarly, high demand for foreign currency shortages in the formal market continues to place a premium on the prices of goods and services. Hence, inflation remains the biggest impediment to favorable consumer confidence, savings and economic recovery in Zimbabwe.

Impact on purchasing power
High levels of inflation have decimated consumer purchasing power in the last 2 years. Purchasing power affects several aspects in the economy from consumer spending on goods and services, enterprise investment and stock prices. Consumer confidence (and store traffic) in major retail outlets significantly dropped in the last 2 years and the quality of the shopping basket deteriorated as well. The decline in revenues in real money was experienced across the whole economy due to the drop in purchasing power. However, the prevailing multi-currency system is positively impacting purchasing power.

Impact on savings
For savers and investors, inflation erodes the purchasing power of their investable assets. Similarly, high levels of inflation create an incentive to spend money and discourage savings. This fully explains the extremely high velocity of the Zimbabwean Dollar which works as a transitory currency, quickly disposed of in favor of foreign currency or prepayment of various goods and services to be consumed later. In 2020, Zimbabwe processed a record value of approximately ZW$2.3 trillion in electronic transactions from less than ZW$20 billion in reserve money. This happened despite the decline in economic output by more than 8.3% and 7.4% in 2019 and 2020 respectively. Boosting national savings requires confidence in the local currency, which is very scarce at the moment. Savings will become realistic if CPI consistently declines over a period of over 6 to 12 months.

Impact on inequality
The high levels of inflation which averaged 655% in 2020 trapped millions of Zimbabweans into poverty and its extremes. It is estimated that over 90% of the local population are living below the International Poverty Line (IPL) of US$1.90 per day. The COVID-19 pandemic exacerbated the situation with the poor mostly living from hand to mouth due to loss of income. The last 2 years have also widened the gap between the rich and the poor in the economy with the rich earning higher incomes (in cash or benefits) enough to offset inflation while single income households had their purchasing power eroded.

The existing levels of inflation will maintain this level of inequality with most civil servants, pensioners, unskilled workers and informal sector workers bearing the brunt. The high levels of inequality call for better policies on income redistribution through social safety nets such as increases in pension payouts, increased access to basic health care for ordinary citizens (through directly funding health care) and the underprivileged, social grants to socially vulnerable and chronically ill. The government would also need to address the shortage of urban housing with low cost housing initiatives that can uplift urban dwellers from poverty.
Impact on economic outlook
The high inclination to spend away a depreciating local currency in the face of inflation tends to trigger more inflation in future. This is directly related to lack of confidence and future expectations of losses in the local currency. In other words, the supply of money outstrips the demand and the price of money (the purchasing power of currency) falls at an ever-faster rate. The pressure on foreign currency will be sustained for 2020 and it will be difficult for Zimbabwe to move out of triple digit annual inflation due to the effect of price increases on future consumer behavior.

Inflation and the De-Dollarization Plan
The government's de-dollarization plan of 2019 fizzled out partly due to the high levels of inflation in the economy. Consumer prices have been increasing consistently, thereby denting any hopes for consumer confidence in the economy. De-dollarization requires a framework to lower inflation to a single digit, backed by marginal growth in money supply and presence of key fundamentals such as an efficient foreign exchange market, foreign currency reserves, real fiscal consolidation and trust in the country's monetary institutions.

However, Zimbabwe's foreign exchange policies that entail printing billions of Zimbabwean Dollars in each month to buy Gold and credit exporters for appropriated foreign currency are the key drivers to inflation. The consistent increase in consumer prices for goods and services (even in US Dollar terms) shows that the economy has underlying structural weaknesses that inhibit sustainable growth. The benefits brought about by the current multi-currency regime require a prudent monetary policy that curbs monetary supply growth and funding for government expenditure.

Victor Bhoroma is an economic analyst. He holds an MBA from the University of Zimbabwe (UZ). Feedback: Email or Twitter @VictorBhoroma1

Source - Byo24NewsVictor Bhoroma
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