eBusiness Weekly
Taking Stock Kudzanai Sharara
Show me someone who says inflation is going to end the year in single digits or anywhere near 10 percent, and I will show you someone hallucinating. It’s simply not going to happen unless the monetary policy leg comes into the equation.
To many, the 2019 economy now feels like 2008, and we are slipping into another hyperinflation era. This comes as the year-on-year inflation for the month of May, which came out early this week, stood at 97,85 percent, the highest level post dollarisation.
More telling is the jump in month-on-month inflation, which stood at 12,54 percent for the period under review. This is the second highest level it has been since October 2018 when it jumped from 0,9 percent in September 2018 to 16,4 percent in October of the same year.
Finance and Economic Development Minister Mthuli Ncube has been telling us to ignore the widely used year-on-year inflation figure and focus on the month-on-month. He says using the year-on-year inflation figures is akin to misreading the inflation trend.
He prefers people would look at the month-on-month inflation which back in February was trending south.
“There is therefore a real manageable trend in ‘month-on-month inflation,’ an encouraging trend. With further implementation ‘month-on-month’ inflation could even reach close to zero by year-end,” said Minister Ncube back in February.
But since then, the month-on-month inflation has been anything but receding, standing at 4,4 percent in March, 5,5 percent in April and a staggering 12,5 percent in May. June is likely going to be worse following rampant price increases witnessed after May figures had been collected. The latest inflation data was collected during the period from 13 to 17 May 2019.
So where did it all go wrong?
In theory, what Minister Ncube and his team at Treasury is doing in trying to tame inflation is the right thing, but the monetary leg is lagging or undermining efforts.
One of the causes of inflation is increase in money supply that outpaces economic growth. For Zimbabwe, the past few years have been characterised by sharp growth in RTGS balances fuelled by monetary financing of the fiscal deficit and Government’s continued borrowing from the banking sector. This fuelled money supply growth to unsustainable levels.
This was identified by Minister Ncube as Zimbabwe’s biggest challenge. Therefore, first and foremost his Transitional Stabilisation Programme was targeted at dealing with fiscal instability. The expenditure framework for 2019 to 2020 was thus premised on fiscal re-balancing and consolidation efforts. All this to curb increased money supply and in the process tame inflation.
Reserve Bank of Zimbabwe governor John Mangudya also supported the fiscal stance.
“As you know, inflation is caused by an increase in money supply. Limiting the growth of money supply is, therefore, designed to reduce inflation. I therefore want to assure the nation that we are on the right trajectory to achieving a lower inflation level of below 15 percent in the last quarter of this year and further lower inflation levels in 2020 on account of the base effect and the stability of the economy,” said Dr Mangudya.
Want went wrong then?
Unfortunately, constraining money supply does not work in isolation as there are other forces that are also inflationary.
The country’s high national debt is one good example behind inflationary pressures. As the country’s debt increases, the Government can either print more money to pay off debt or raise taxes as has been done through the 2 percent Intermediated Money Transfer Tax.
While it seems money supply is being curtailed, a rise in taxes has caused businesses to react by raising their prices to offset the increased tax rate. This triggered inflation in October 2018, while this year it was the increase in fuel levy, in January, that triggered another round of price increases.
The missing monetary policy leg
What has also been missing in efforts to tame inflation is the Monetary Policy leg.
Historically and theoretically, central banks are known to implement inflation targeting policies. Inflation targeting is a monetary policy regime in which a central bank has an explicit target inflation rate for the medium term. One financial tool often used for inflation targeting, which is not money supply, is the use of interest rates.
Increased interest rates will help reduce the growth of aggregate demand in the economy. The slower growth will then lead to lower inflation. Higher interest rates also reduce consumer spending because: Increased interest rates increase the cost of borrowing, discouraging consumers from borrowing and spending.
Despite calls by the banking sector to put up interest rates, this financial tool remains unavailable with most loans now attracting negative returns. Savvy consumers and corporates are busy borrowing for spending as interest rates remain capped at 12 percent for the past two years.
Treasury Permanent Secretary George Guvamatanga, back in March, talked of plans to establish a monetary policy committee that would set a benchmark interest rate as part of plans to stabilise prices, but up to now, interest rates remain capped.
What has also escaped both the monetary and fiscal authorities in their inflation projections, is that inflation is not only being driven by increased money supply. There are other forces and the exchange rate is the biggest driving force behind inflation. Without solving exchange rate challenges, inflation will remain elevated as it is now.
The falling exchange rate on both the interbank market and parallel market is driving what we call cost push inflation.
In an increasingly global economy, exchange rates are one of the most important factors determining the rate of inflation. When the exchange rate suffers such that the RTGS dollar become less valuable relative to foreign currency, this makes foreign commodities and goods more expensive to consumers.
With most companies importing raw materials or finished products, a weakening currency has meant they have had to fork out more in costs. When companies are faced with increased input costs like raw goods or materials, they will preserve their profitability by passing this increased cost of production onto the consumer in the form of higher prices.
So thinking that prices will come off, without tangible evidence that the exchange rate can be stabilised is hallucinating.
Way forward: A listening and proactive monetary authority
What is clear is that our monetary authorities are not listening to other stakeholders in the economy. The local currency has remained volatile against major currencies because the mechanisms that have been put in place for businesses to sale and buy currency are not working.
The country now has close to $1 billion in both local FCAs and Nostro FCAs, the highest in years, but still the exchange rate continues to fall sharply on both the parallel and interbank market.
Exporters have aired their concerns, but it seems no one is listening. As we report elsewhere in this publication the Confederation of Zimbabwe Industries (CZI) is pushing for an independent foreign exchange market meaning they have lost confidence in the current system.
But how much of their input will be taken on board?
The industry body said the current mechanism of the Interbank Market — whose USD: RTGS$ exchange rate is now 1:6 — was prone to internal trading, private deals, favouring own clients, conflicts of interest and corruption. If indeed this is true, then the central bank has failed in one of its mandates which is supervision and regulation of financial markets. In fact, the RBZ is complicit in this market failure.
Having said that, what is lacking in this economy is production. The economy is import driven but is not generating enough foreign currency. All impediments to production, such as corruption, investment requirements, the ease and cost of doing business, will have to be eradicated if we are to improve on our plight.
