How can you have a cash crisis when you don’t have a currency?

When the Zimbabwean currency was withdrawn in 2009 after hyperinflation, the authorities chose to follow the example of Ecuador, Panama, El Salvador and Kosovo, and instead use foreign currency.

They might have chosen to use minimal gold reserves to support a currency board system, but they instead chose this purer form of monetary regime.

Adopting someone else’s currency can be pretty brutal in the face of a negative economic shock. It is similar to the gold standard. If exports shrink faster than imports, then the trade (and current account) deficit will cause a flow of foreign currency out of the country to cover that trade deficit.

As the quantity of dollars shrinks, prices and wages must necessarily fall. This will then limit demand for imports and can also help out on the export side.

Admittedly, it doesn’t work quite so well if you are selling commodities whose price is determined globally (it is not your actions which can boost export volumes), but if your wages fall enough so that you become a cheaper supplier, you can win market share from other more expensive countries.

Zimbabwe’s largest trade partner is South Africa, which coincidentally exports many similar products. To maintain competitiveness with SA, which has seen the rand weaken from around ZAR7-8/$ in 2009-2011 to ZAR15/$ now, wages would need to have fallen in Zimbabwe by around 40%.

But we have seen nothing of the sort. Consumer price deflation was only around 1% in 2014 and just 2% in 2015. The latest figure for May 2016 was still deflation of just 1.7%.

The CPI is down just 6% from its peak at the end of 2012, not the 40% which comparison with SA suggests is needed.

A monetary regime like this needs a great deal of wage flexibility, which Zimbabwe does not have.

The only exception we are aware of is the listed company Econet, which has announced the unprecedented decision to cut wages by 20% and would appear to be ahead of other companies in the country.

The Reserve Bank of Zimbabwe governor, John Mangudya, says an internal devaluation (ie price deflation) of 20% is needed. That looks optimistic today, but would be right if you assume the rand will rally back to a long-term fair value of ZAR11/$. We do not think it will.

To be fair to Zimbabwe, most (all?) countries cannot bear to see wages drop 40%, which is why countries tend to have their own currencies, which can be devalued without the population noticing they are much poorer.

Even in the supposedly well-educated and financially literate UK, the pro-Brexit media was excited recently when the stock market rose in sterling back to pre-referendum levels; only at the end of the article was there any mention of the pound having lost more than 10% of its value in dollar terms.

If wage flexibility is insufficient, the government can compensate for external shocks by spending its own savings. Russia and the Gulf countries have been spending their savings to soften the shock of low oil prices (Russia devalued as well, to further soften the pain and unemployment stayed in a 5-6% range as a result).

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