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Yawning gulf between exchange rates risky

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THE yawning discrepancy between the value of the Zimbabwean dollar against the US dollar on the official exchange auction system and the parallel market may soon trigger an implosion of the formal market as business passes a vote of no confidence in the system, analysts have warned.

BERNARD MPOFU

While official statistics show that the domestic unit has been stable over the past four months, experts say a sharp increase in prices during the festive season is a reflection of how the auction system has performed. Over the past week, US$1 has been trading at up ZW$130 compared to an official rate of ZW$83.30 against the greenback.

The Reserve Bank of Zimbabwe (RBZ) introduced the new Foreign Exchange Auction System last June to determine the Zimbabwean dollar exchange rate with captains of industry and commerce cautiously optimistic that the platform would enhance transparency and efficient distribution of scarce forex.

“There is a vote of no confidence in what is considered the official exchange rate as determined by a weekly auction. The auction shall never be an efficient mechanism in Zimbabwe to discover the true price of Zimbabwe dollar on the international forex markets because it is an exclusionary platform which only reflects demand and supply of forex for what are considered essential goods,” Chris Mugaga, Zimbabwe National Chamber of Commerce chief executive said in an interview with The NewsHawks .

“In other words, there is an arbitrary standard to determine equilibrium. Do away with the language of priority list if u want true market discovery.

“Markets are now so developed worldwide and the forex market is the largest and deepest financial market worldwide ahead of equities and money markets. To wait for an entire hell of a week to determine exchange rate makes is a joke. Technology allows for real-time determination of exchange rate, not this weekly affair we are experiencing. There is still a lot of work to do regarding transparency of trading on the market. On paper it looks transparent, but I believe there are blind spots we are dismally failing to notice in the whole trading system.”

John Legat, Imara Asset Management chief executive, expressed scepticism on the current auction system.

“Looking forwards into 2021, we remain sceptical of the foreign exchange auction system as we wrote in our last notes. The fact that the exchange rate has remained stable at around ZWL82 to USD1 for the past four months is enough to generate mistrust in any such system in the developing world,” Legat said in a research note.

“Speaking with numerous corporates from different sectors who had been successful in being allocated US dollars at the auction, they found that receiving actual US dollars for imports was a different matter. By December we were hearing of delays of five weeks in settlement of allocated US dollars. That implies that the RBZ did not have the dollars available to settle. Yet allocations at the auction system remained at US$30 million per week on average which made no sense when the supply was limited. As a result of these delays we would now expect corporates to use the parallel foreign exchange market should the settlement delays persist.”

Last month, the apex bank announced that all exporters would have to hand over 40% of their export earnings to the RBZ rather than 30%, in addition to the 20% taken from local earners of US dollars, which we assume is to provide the RBZ with more foreign exchange to allow for improved settlement on the auction.

“As we have written many times before over the years, it would be so much better to allow the private sector and the commercial banks to run the foreign exchange markets as happens elsewhere in the world,” Legat said.

“One wonders what exporters will do now. With say 100% of their revenues earned in US dollars, the taxman, employees and suppliers all want to be paid in those same US dollars. Now that the RBZ is taking 40% of them and exchanging ZWL at ZWL82 to US$1 puts them in a very tough position as they won’t be able to meet their USD obligations and will end up with ZWL which nobody in their business dealings want. Who would be an exporter in this environment?”

Persistence Gwanyanya, an independent economist, said the current foreign currency shortages were cyclical, adding that the situation is expected to improve soon.

“Reflecting the seasonality of Zimbabwe’s forex cashflows, the last quarter of the year and first quarter of the following year is normally the most difficult as supply of foreign currency drops as the tobacco selling season comes to an end normally by end of August and as inflows from mining decline on account of annual shutdowns at major mining houses coupled with disturbances of mining activities by the rains. On the other hand, the country normally experiences peak demand for foreign currency during this period to support importation of agriculture activities,” Gwanyanya said.

“Traditionally, these demand and supply matrix would result in some temporary shocks, which if not well managed would become embedded. In the past we used to rely on the Afreximbank facilities to smoothen this cashflow gap, but this option is now discouraged as this commercial facility has proved to be very expensive at a cost of around seven percent per annum.

“Measures taken by RBZ to manage the foreign currency cashflow gap during the review period are quite commendable. These include agreement with banks to immediately settle foreign currency allocation from the auction system from their own position as part of their financial intermediation role, requirement for Treasury to sell foreign currency collected from mainly taxes and duties to RBZ for onward supply to the Auction System.”

Tendai Biti, former Finance minister, last year warned that the auction system would implode.
“This myth will break, there will be an implosion as more and more demand on foreign currency increases. When the demand on foreign currency increases with a limited supply, the price will shoot up,” Biti said.

“So, the pretence of 80, 81, 79 is a myth and myth that will be shattered very soon. There has been a claim by this regime that the Dutch auction system has worked and has stabilised the prices. We contend that the Dutch auction system is not an auction system.

“An auction system is a free market, with free entry on both supply side and on demand side. Regrettably, as far as the Dutch auction system is concerned, there is only one supply…only the Reserve Bank has been supplying foreign currency.”

Biti added: “And you will notice that the price of the product of the foreign currency on the Dutch auction system has remained constantly at 80, it has been floating between 79 to 82 and it has averaged 80.

“It’s a controlled exchange rate, it’s a rigged exchange rate, the (RBZ) governor wakes up on the wrong side of the bed on Tuesday and says today it is going to be 81 or today it is going to be 79. There is no science; there is no attempt to be sophisticated.”

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