Zimbabwe dollar plummets

The Zimbabwe dollar plunged by 70 percent in three weeks but what was more disturbing was that no one knew when the slide would end.

The United States embassy said as the parallel forex market was a free market, it was largely supply and demand that determined the price and the fundamental reason for the slide was that demand exceeded supply.

One of the major reasons was the new tobacco payment system which required that purchases be done in United Stated dollars.

Reports also said the government was on the market for US dollars to pay the Libyans for fuel.

It was also reported that the government was on the market for hard currency to import food.

Some reports even said some people were buying all the foreign currency they could grab because of fears that the government might take over their assets and businesses under its indigenisation programme.

Full cable:

Viewing cable 02HARARE1406, THE ZIMDOLLAR PLUMMETS ON THE PARALLEL MARKET

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This record is a partial extract of the original cable. The full text of the original cable is not available.

UNCLAS SECTION 01 OF 04 HARARE 001406

SIPDIS

SENSITIVE

STATE FOR AF/S, AF/EX, HR/OE-MTRACY

NSC FOR SENIOR AFRICA DIRECTOR JFRAZER

USDOC FOR 2037 DIEMOND

LONDON FOR CGURNEY

PARIS FOR NEARY

NAIROBI FOR PFLAUMER

PASS USTR – ROSA WHITAKER

RIO FOR WEISSMAN

TREASURY FOR ED BARBER AND C WILKINSON

E.O. 12958: DECL: N/A

TAGS: ECON EFIN ETRD ZI

SUBJECT: THE ZIMDOLLAR PLUMMETS ON THE PARALLEL MARKET

REFTEL: HARARE 1188

SENSITIVE BUT UNCLASSIFIED, PLEASE PROTECT ACCORDINGLY.

NOT FOR INTERNET POSTING.

¶1. (SBU) Summary: After remaining fairly stable for

six months from December 2001 at around Z $320=US $1,

the Zimdollar has devalued sharply on the parallel

market over the last few weeks, with reports of trades

in recent days going off at anywhere between Z $520 and

Z $580. This is roughly a 70 percent depreciation in

three weeks. The cause is a mismatch between supply

and demand. Demand is higher due to: changed tobacco

sales rules that require all purchases of the leaf,

including local, to be settled in US dollars; emigrants

converting local assets to hard currency; importers

scrambling for a stash of forex; likely GOZ buying to

pay for fuel and food imports; and increasing

recognition that the Zim economy is going to suffer

substantially this year. Supply is lower due to: slow

tobacco sales and a stricter payment regime that sees

the GOZ capture all forex receipts; both gold exports

and manufactured exports are dropping steadily; and

hoarding and speculation are more commonplace. The

effects of the slide on the economy are consistently

negative: more and higher inflation; increased

shortages of imported goods and domestic goods

requiring imported components; shrinking real incomes;

declining GDP; increased government deficits; financial

and human capital flight; and reduced standards of

living. End Summary.

¶2. (SBU) A 70 percent currency devaluation in three

weeks is a major alarm bell. As no one knows where or

when this slide will end, there is a so-far weak but

distinct odor of panic in the air. Such panic tends to

become self-fulfilling when a run on a currency is

allowed to precede unchecked, as is the case here so

far. The Government has been silent on the matter, but

in the Finance Ministry there is a growing sense of

looming disaster at the prospect of further deep and

swift damage to Zimbabwe’s economy as a consequence of

runaway devaluation and the negative follow-on effects.

We predict that any GOZ response, when it comes, will

be heavy-handed and perhaps ill-thought-out, and it

will rely on greater control rather than greater

reliance on open market forces. This could be a recipe

for further economic disaster.

————————

Reasons Behind the Slide

————————

¶3. (SBU) We have sifted, to the best of our ability,

through the plethora of facts, half-facts and

allegations that are currently being bandied about to

explain the rapid slide. We provide those we find most

valid here in no particular order, and caution that the

list is likely incomplete. As the parallel forex

market is a “free market”, it is supply and demand that

determines the price of the commodity, and the

fundamental reason for the slide is demand that exceeds

supply.

Increased Demand Factors

————————

== The new tobacco payment rules, announced in late

April by the Reserve Bank and aimed at halting any

forex leakage (the GOZ wants to capture ALL export

receipts), requires that purchases be done in US

dollars and that all payments go directly to the

central bank. This has two effects: local buyers (who

buy either for domestic cigarette production or to

process tobacco and then export it) now need to source

hard currency when in previous years they could pay in

Zimdollars. Although the Reserve Bank set up a complex

scheme utilizing a memorandum of deposit facility and a

guarantee facility so that local banks could access

offshore lines of credit for local buyers, none of

these arrangements have materialized so far. As a

consequence local buyers have been sourcing small

amounts of hard currency in the parallel market,

driving up the price.

== A host of sources have told us that the GOZ has been

in the market for US dollars the last two weeks to make

good on their promise to pay the Libyans for fuel

imports (after deducting for exports to Libya and

investments). Apparently promises to pay no longer

satisfy the northern neighbor, and it is time to put up

or be shut off. The other half of this claim is that

the printing presses are running on double shifts to

print the Zimdollars that are chasing limited forex.

We have not been able to come up with hard evidence

that proves either contention, but have no reason not

to believe them.

== We have also been told that the GOZ is in the market

for hard currency to fund food imports. Given the

necessity, this is also highly probable behavior.

== The numbers of intending emigrants, swollen by

evicted white commercial farmers, is rising rapidly,

and they need hard currency when they cross the border

for the last time. In addition, many of them are

selling assets and chattels before departure, and they

are demanding payment in hard currency. MDC President

Morgan Tsvangirai told us June 10 that the local Indian

community bought up much of the forex supply last month

after a war veteran leader threatened to take over

their businesses and/or seize property.

== There is a growing perception on the street that the

sanctions imposed by us and others are affecting the

GOZ leadership. The thinking is that the leadership

will lash out in an anti-Western response, perhaps

outlawing all forex trading or holdings (limiting such

to the Reserve Bank). Consequently there is a rush to

get hard currency now, while one still can.

== At a NEPAD/World Economic Forum conference in South

Africa a few weeks ago, Zimbabwe’s Finance Minister

laid out some bleak facts on his country’s economic

performance, including that a third of jobs in the

manufacturing sector had been lost in the last year and

a half to two years, and that an official devaluation

was long overdue. These remarks added to the negative

pressure on the local currency, and created an

expectation of further weakening, thereby sowing the

seeds of substantial devaluation.

== And finally, the perception that the Zimdollar is

now on a runaway slide means that all importers, be it

retailers or manufacturers, want to salt away a stock

of hard currency, thereby feeding the chase that builds

on itself.

Decreased Supply Factors

————————

¶4. (SBU) On the supply side of the pricing formula are

a number of developments that cause the market to be

very short, especially in light of the above demand

factors.

== Tobacco sales have been slow to date, with both

commercial and small-scale indigenous growers saying

that even with the recently announced subsidy, prices

are too low to provide a real return on the crop so

many are holding back. Slow sales means reduced hard

currency inflows to the Reserve Bank.

== On any tobacco sold, the Reserve Bank pays out to

the growers 80 percent of the proceeds in Zimdollars at

the subsidy price (a special rate of USD 1 equals about

Zim $100, see Reftel). The remaining 20 percent is

intended to be set aside to fund a forex-denominated

loan facility that tobacco growers can access to

purchase necessary imported components to continue

production. To date there has been no funding of this

facility (i.e. the GOZ is hanging on to all proceeds)

and therefore no drawdowns of hard currency by farmers.

This is an additional forex supply constraint not seen

in prior years, when 20 percent of receipts went

directly into farmer’s foreign currency accounts, and

it is a contributing factor to the mismatch of supply

and demand.

== Once the run started, holders or sellers of hard

currency have held on, hoping for higher prices and by

acting thus are helping to ensure that the local dollar

devalues.

== Zimbabwe’s GDP continues to shrink, resulting in

reduced manufactured exports. The gold industry is

also on the ropes; in 2000 exports totaled 27,000

ounces and last year this dropped to 18,000 ounces.

The trend of declining gold production is continuing

this year, and though the gold price has firmed

somewhat, overall, gold export proceeds are down,

another forex supply constraint (gold is Zimbabwe’s

second-largest hard currency earner).

———–

The Effects

———–

¶5. (SBU) The effects of this currency slide on the

Zimbabwean economy are strongly negative. The rapid

devaluation means that inflation will continue to climb

(up from the most recent May figure of 122 percent) and

could easily exceed 200 percent at year-end (as the

higher costs of imported goods and components are

passed through, exacerbated by the rapidly swelling

money supply). The higher inflation, coupled with

price controls and shrinking disposable income, will

further reduce GDP, resulting in more manufacturing

slowdown or shutdown, and further job and income loss.

High domestic inflation cancels out the export lift

normally associated with a weak currency, and high

inflation, coupled with the central bank’s low interest

rate strategy, will further strip the country’s already

very low savings base, which is now only 6 percent of

GDP, down from 9 percent last year. This means that

any recovery will be that much more difficult to

execute, as there is little or no savings base to fund

capital expenditure.

¶6. (SBU) The devaluation also makes food imports and

any government relief program more expensive (if

currency is sourced at parallel rates), increasing the

likely footprint of malnutrition or starvation. Higher

costs and the slowdown of the economy means that the

government’s deficit will increase as spending surges

and receipts fall. Predictions made by Finance Minster

Makoni that the deficit would be slowly brought under

control this year and next are clearly going to prove

wrong. The devaluation and higher cost-of-living will

increase the brain drain of service professionals to

either regional or overseas destinations. Electricity

costs will increase (the state power authority

announced a 45 percent increase two weeks ago), as 30-

40 percent of national power consumption is imported.

With the parallel and official rate difference at a

multiple of ten, the corruption opportunities for

ruling party insiders who have access to hard currency

at the official rate are breathtaking. Unfortunately

these negative consequences tend to be self-

reinforcing, and cumulative in a geometric rather than

additive mode. This means that damage can snowball

quickly, and because it is widespread, take longer to

repair.

¶7. (SBU) Comment. Zimbabwe’s economy, already against

the ropes and bleeding badly, looks set to receive

another series of body blows. Coupled with the food

shortage, the negative economic repercussions of an

uncontrolled and steep devaluation make it certain that

the next 12 months will bring very difficult and hard

times to Zimbabwe, with levels of suffering not before

seen. Given the levels of ego and greed at the

leadership level we doubt that this coming crisis will

bring about a substantive change of heart or policy,

meaning that more of Zimbabwe will simply disappear

over the edge of the abyss in the near term. End

Comment.

SULLIVAN

(22 VIEWS)