OVER the past weeks some fundamental changes were implemented through the monetary policy. These changes will likely reshape the currency market and the stability of the local currency going forward.
The official exchange rate was devalued on the formal market after weeks of trading at a steep discount of over 100% to the parallel market.
The new Zimbabwe Gold currency (ZiG) had traded at a pegged official exchange rate since its introduction in April 2024. At inception, the ZiG was introduced as a gold backed currency, which essentially means that its value was tied to that of gold.
To back it up, the government said it had accumulated sufficient gold reserves to anchor the value of the new currency.
Internationally, a gold backed currency is differentiated from fiat through the underlying value anchor. A fiat currency is not backed by anything and its value is determined by the forces of demand and supply in the open market.
Suffice to say most modern economies maintain gold and physical forex reserves to anchor currency value when the market fluctuates.
A gold-backed currency, which is no longer a popular phenomenon globally since the 1940’s, is monetary system where the value of the currency is linked to the price of gold on international markets and not forces of demand and supply.
On devaluing the ZiG from 1:14 to 1:25, the gap between the formal and informal exchange rate narrowed from 17 to 7 points, in turn reducing the parallel market premium to 30% from 130%.
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The action of the central bank unilaterally declaring the exchange rate is tantamount to fixing and admittance that the exchange rate is officially not driven by any market forces contrary to what the authorities say.
The Finance minister, Mthuli Ncube was interviewed from the parliament and said that the ZiG was not a gold-backed currency and that the mention of gold was only in its backing not its price determination.
This is unheard of in economics study. Once you declare that a currency is gold-backed its value has to follow suit and be linked to that of gold.
Even as the minister made an about turn on the currency subject, he failed to mention what determined the value of the ZiG. He said it is a number of factors, which he could not mention, again an indictment on government over the fixation of the rate.
The Governor of the Reserve Bank of Zimbabwe (RBZ), also came out with a wishy-washy statement over his move to devalue the ZiG. He said the economy has been enjoying stability and that was due to currency stability brought about by the ZiG.
He said the ZiG had been trading freely on the interbank market based on a willing-buyer, willing-seller principle. What he meant was that those selling and seeking forex in the official market were determining the exchange rate through market forces.
Again, this is a false statement. The official market was trading at a fixed exchange rate dictated by the RBZ and last quoted at around 1:14 before the devaluation to 1:25.
On a collective, authorities have widened the trust gap with the generality of Zimbabweans by not owning up to their commitment to defend the value of the currency through reserves.
By lying about what has been driving the ZiG exchange rate and not coming clean on the reserves, government indicted itself, further dampening future prospects of a trust dividend.
In numerous articles to our clients from the time the unit was introduced, we have highlighted that the ZiG was anchored on a faulty base and that its demise was imminent.
Barely five months on, the currency crushed spectacularly. A fixed currency regime cannot survive the day in Zimbabwe primarily because the government overspends and likes to print money to compensate for the excess spend.
Further, the economy is too informal to operate on a formal exchange rate. Money changing has become a living for a good fraction of the populace and these parties work with the system to sustain market gaps and exploit those gaps through rent-seeking and arbitrage.
Forex trading in Zimbabwe is not merely a few guys at Ximex with bricks of cash, it is sophisticated business with elements within the financial system and government creating and fuelling the arbitrage.
It cannot be wished away or cleansed overnight especially so as it is now intertwined with the informal sector, insulating it from a near term dismantling.
Over the past few months there has been increased talk about retracing the mono currency system where the ZiG or any future Zimdollar becomes the sole currency.
This will effectively end the multicurrency system after at least 16 years. There have been numerous attempts to disband dollarisation over the last 16 years and all these were unsuccessful.
The failures stem from structural concerns raised earlier in this piece and the general lack of strong economic fundamentals.
If the economy is on a strong footing as authorities purport, indulgence to overspend or go above budget should be minimal.
If the government runs a narrow deficit, propensity to borrow externally or print is minimised.
This has been a major source of local liquidity over the years.
While the government says it has been achieving surpluses and running narrow deficits, the reality is that it has been in currency issuance overdrive.
This goes to show that there are some interests, which are propped by the chaos and these have to be of powerful people running the country.
What this means is that the chaos of currency is equally by design from those in power seeking to perpetuate their empires, which are run on faulty economics, including a tamed exchange rate.
Zimbabwe cannot be successful in pursuing a mono currency over the short term because the fundamentals that anchor a currency are not in shape.
If that path is taken the economy will crush at a speedy rate compared to some periods during dollarisation.
Dollarisation at least allowed for production to go on and shops to maintain stocks. This will become a different case under ZiG or any local currency prematurely introduced.
In our view, in as much as much as government years for this route, under the impression that it will calm the storm, it will not be approved.
The RBZ and Ministry of Finance knows the catastrophic implications of this under taking.
We are, therefore, likely to stick with a dual currency indefinitely with bouts of exchange rate adjustments periodically and instabilities that follows the premiums.
Equity Axis is a financial media firm offering business intelligence, economic and equity research. The article was first published in its latest weekly newsletter, The Axis.
