1 October 2017

Zimbabwe: Bond Notes - the Chickens Are Coming Home to Roost

Last week's crashing of the bond note against the United States dollar led to market panic while at the same time evoking memories of the country's unprecedented economic meltdown and hyperinflation era which peaked in 2008.

Zimbabwe adopted a basket of multiple currencies in 2009 after the runaway inflation liquidated the local currency which has since been demonitised. An export collapse and yawning trade deficit resulted in shortages of the greenback forcing government to introduce US$200 million bond notes which were ostensibly backed on an African Export and Import Bank facility (Afreximbank).

The central bank also misled the market that upon expiry of the bond notes (when exports reach US$6 billion), those customers who would have deposited foreign currency would be entitled to demand their funds in foreign currency. In August, Reserve Bank of Zimbabwe governor John Mangudya, while presenting the Monetary Policy Statement, said the apex bank was now negotiating for another US$300 million facility with the Afreximbank. Critics say that this money supply growth which is not backed by production or export growth has wiped out the value of bond notes.

When he introduced the bond notes, Mangudya said the fiat currency would trade at par with the United States dollar, something critics questioned from the onset. The central bank chief kept the terms of the Afreximbank facility a closely guarded secret fueling market speculation that the notes were not backed by anything.

Now less than a year after the central bank introduced the bond notes, the currency has lost more than half of its value escalating speculation and fears among the populace which has not forgotten the food and fuel shortages of the hyperinflationary era.

The foreign currency shortages have resulted in massive arbitrage and rent-seeking behaviour as the US dollar now has multiple exchange rates in Zimbabwe. For instance, one has to transfer up to US$150 from the bank or $130 in bond notes to get US$100 from the thriving black market.

There is a rate for bond notes and Real-Time Gross Settlement electronic funds to the US dollar.

These disparities have led to a new wave of price increases or rather differential pricing system where retailers add a premium depending on the medium of exchange used.

Following social media reports that government had injected more bond notes into the market, panic hit the market resulting in impulse buying to preserve the value of money locked in banks.

Home Affairs minister Ignatius Chombo threatened to take action following the price hikes and panic buying spree with Mangudya at pains to re-assure the market that the situation is normal.

Analysts, however, say that this could be déjà vu. Barely 10 years ago, government introduced the National Incomes and Price Commission to monitor price increases when it became apparent that Zimbabwe's inflation had reached unprecedented levels.

Many retailers were arrested and arraigned before the courts for "economic sabotage". This did not have the desired effect as the economic crisis worsened while the black market thrived.

Upon his return from the United Nations General Assembly meetings held in New York, President Robert Mugabe played to the gallery threatening to crack the whip on retailers and foreign currency dealers who he blamed for the deteriorating economic situation.

However, analysts say these threats could only unsettle the markets, spook investors and at worst cause to severe shortages of basic commodities. Instead of threats, the government should be introducing a raft of reforms which attract capital.

The crashing of the bond note comes at a time the economy is ailing as it is characterised by a debilitating liquidity crunch, an acute cash shortage, dwindling investment inflows, company closures and massive job losses.

The outlook points to and even bleaker future.

MDC-T legislator and member of the Parliamentary Portfolio Committee on Budget and Finance, Eddie Cross, warned that the economic crisis could escalate before the end of the year.

"It is going to accelerate and get much worse by Christmas. It is completely unrealistic to think that things are going to change because government has no control over this situation. We have an old man in power who is not willing to step down," Cross said.

Buy Zimbabwe executive and economic analyst Oswell Binha said the introduction of the "surrogate currency", which has triggered the steep rise in prices of basic commodities and the attendant scarcity of fuel currently obtaining was "chasing away hard currency".

He said government's overspending on unbudgeted priorities had escalated the decline in value of the proxy currency.

"Once you introduce a surrogate currency it will always chase away the real money with real value, the bond note is not universally accepted as a store of value. Rogue money chases away real money," Binha said. "I think we expected a gradual decline of the bond currency but we are witnessing a sudden decline of the same because government has been financing parallel activities."

Binha noted that while the central bank was in denial mode of what was currently obtaining in the economy, the markets were telling a different story.

"Prices are going up, the governor of the central bank can say what he wants, and markets do not lie, they react to sharp political pronouncements," Binha added. "There is need to go back to addressing the basics, maintaining fiscal discipline is an important measure to induce confidence."

Economic analysts say protectionist measures alone such as Statutory Instrument 64 of 2016 will not stimulate production in the capital-starved economy. Zimbabwe, they said, requires policy that attracts foreign capital arguing that bond notes had unnerved the markets.

According to the latest World Bank economic update on Zimbabwe released in June, the economy faces complex fiscal and macroeconomic challenges, a conclusion that waters down government's ambitious economic growth rates. The bank warned that administrative measures such as the introduction of bond notes would be circumvented by the parallel market.

The International Monetary Fund warned against introduction of bond notes from the beginning.

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