An ineffectual central bank: One of the many unintended results of Zimbabwe`s dollarisation

Reserve Bank of Zimbabwe Building at Number 80 Samora Machel Avenue, Harare

Coming out of the worst economic and financial crisis that had threatened to destroy the world's financial capital, policy makers in London had to employ an unorthodox set of measures to keep their economy and financial markets afloat.  The year was 2009, with Sir Mervyn King at the helm of the Bank of England, the UK`s central bank adopted an aggressive stance toward the economy.  The UK`s Monetary Policy Commission decided to slash the country's base rate (the interest rate at which selected specified UK banks can borrow funds from the Bank of England) to a record low of 0,5 % and print money to inject into the economy, using £75 bln worth of quantitative easing  (an unconventional type of monetary policy in which a central bank purchases government securities or other securities from the market in order to lower interest rates and increase the money supply,) in order  to jump-start its ailing economy. 

  

Across the Atlantic, the situation was no different. Wall Street, the symbol of America's financial and economic clout had sunk to its lowest levels in some 12 years. Banks previously considered “too big to fail” had folded and industries were shutting down, rendering many out of employment.  As corrective measures to get back America's economy back on track, an $800 bln economic stimulus package was introduced. Additionally, the Federal Reserve (the equivalent of our Reserve Bank) began purchasing financial securities so as to pump money in the economy with the hopes that banks would lend out the money and spur economic recovery.  The Fed certainly wasn't mucking around! When the program started out, America's Federal Reserve was injecting $85 billion a month into the economy with this asset purchase program.  Years after the turmoil of the 2008-09, both the UK`s and the USA`s economy have been resurgent, and are currently among some of the best performing economies globally on the back of these central bank interventions currently.

What's the point of this history lesson and how does it relate to good old Zimbabwe you may be wondering? The above illustration shows how much of an important role central banks can play in an economy, especially when things go belly-up.  Most of the economies globally- the aforementioned two included, were facing tremendous economic strain, high unemployment, bank failures, low GDP growth , and deflationary pressures in some instances became commonplace. However, in trying to steer their economies out of stagnation, central banks played a significant role in these countries.

Enter Zimbabwe, whose economy has experienced most if not all of the challenges stated above. What is markedly peculiar to this country is the Reserve Bank's (RBZ) glaring lack of capacity to tackle Zimbabwe`s economic challenges. Since dollarization in 2009, the RBZ's role has been reduced to that of a mere supervisory agent. A function it has not particularly excelled at either, if one was to look at the number of indigenous bank failures for instance.

An Empty Toolbox

It is inconceivable, how one would be required to be effective in their function- whatever it may be without being equipped with the necessary tools of that trade.  Such is the case with Zimbabwe's central bank.  As economic activity has gotten subdued over the years, it would have been the central bank's function to attempt to stimulate economic activity within the country. Had it possessed the necessary tools, one option it could have considered was to print money and inject into the economy to boost economic activity. This would certainly have put on ice the cacophony of voices crying out, “liquidity crunch" at every opportunity within the local business community.  After printing the money needed to stimulate the economy, the central bank could have introduced this extra liquidity through asset purchases of financial securities like bonds within the market. 

Two things one may have noticed within this particular scenario.  Zimbabwe is using a basket of borrowed currencies that it does not have the legal right to print. So without the ability to print money that may be needed to stimulate the economy; ideally the country should depend on export earnings from goods and services it sells to other countries or foreign capital flows. However with no manufacturing base to write home about, Zimbabwe’s ability to earn significant export earnings is greatly undermined.  As a result, the economy has to depend on remittances from those in the diaspora, as well as other non-concessional inward flows of money. Again, as a direct result of us not using our own currency, Zimbabwe automatically forfeits its seignorage rights (the profit made by a government through the increase in the amount of money circulating in the economy.) Clearly then, had the country been using its own currency, the central bank would have been better equipped to handle the economic challenges we currently face.

The second, observation from the above example would be the inexistence of a vibrant capital market where financial instruments like bonds are traded.   Hence the Reserve Bank cannot fully utilise the conventional open market operations to buy and sell treasury bills on behalf of the government, in order to increase or reduce the amount of money in the banking system.  Without a robust bond market, the apex bank is robbed of a major tool in its arsenal for tackling economic difficulties. Legacy issues attached to both the government and the Reserve Bank detract from efforts to re-establish the bond markets, as the RBZ learnt in 2012 through a series of failed Treasury bill auctions.

However, the Zimbabwe Stock Exchange is currently working on re-introducing the fixed income securities market after its collapse in 2001. But history has shown that Zimbabwe is a largely bank based economy, and capital markets play a little role since they are not yet advanced. Going forward, lack of sufficient economic growth to generate appropriate issuers and investors as well as no stable and sufficiently low interest rate environments to facilitate fixed income investments will potentially thwart any meaningful contribution of the bond market to the economy. This will again lend weight to the argument that the RBZ has insufficient tools at its disposal to try and prop up the economy.

Broke and not Inspiring Confidence

Another vital role central banks the world over play, is that of being the lender of last resort to commercial banks. This means that normally, the Reserve Bank would act as a type of guarantor, by being able to provide credit to commercial banks and other financial institutions to prevent them from getting insolvent, thus safeguarding depositors` money. This would improve public confidence in the banking system and prevent market wide "runs" on the banks.  This unfortunately is not the case in Zimbabwe, where the Reserve Bank is grossly undercapitalised such that it cannot adequately perform this role. Added to this is the RBZ`s lack of prerogative in influencing both interest and exchange rates actively on the market. Then there is the issue of debt, that had saddled the RBZ up until the end of November 2013 when the government announced it would assume the RBZ`s debt of around $1, 35 bln.  All these are tell-tale signs of a Reserve Bank not adequately equipped to carry out its mandate.

Then there is the general distrust the business sector has towards the apex bank.  This largely stemming from the millions of dollars seized from corporates` foreign currency accounts in October 2007 by the RBZ at the height of Zimbabwe's economic meltdown.  Again, the somewhat arbitrary and not so well thought-out policies by the RBZ in the past also contribute to this distrust.  Consider the rather eccentric $100 mln minimum capital requirements for commercial banks, together with their attendant unrealistic deadlines which were later on revised upwards to 2020. The MoU on interest and ledger charges within the banking system, largely seen as a form of price control by market players that subsequently reduced the incomes earned by banks and was later scrapped in 2013 was another questionable call. This uneasy relationship between the market regulator and market players could also render moral suasion of no effect in influencing the behaviour of players in the economy.  Suasion refers to a non -official tool of monetary policy whereby the central bank tries to persuade but not force financial institutions to follow a certain course of action.

Bond coins and adoption of Chinese yuan as reserve currency

It has not been all doom and gloom for the RBZ however. There have been a couple of feathers in its cap to this point, notably the introduction of bond coins as a way of dealing with change shortages that had plagued the economy as well as the recent announcement that the yuan will be added to Zimbabwe`s currency reserve. Though somewhat controversial, the latter intervention will likely expand Zimbabwe` options in international trade. However, in the broader scheme of things, both these policy interventions, though necessary, have not and will not have any significant effects in altering Zimbabwe`s economic trajectory.

The sad realities therefore are those of a central bank lacking the requisite armour to be of effect in the local economy.  Although this could be largely due to the overall macroeconomic situation prevailing in Zimbabwe, without the RBZ fully carrying out its mandate, the options government has to change the economic fortunes of the country are limited. As it is now, we have on our hands, a central bank whose role has been reduced to that of a supervisory authority that cannot materially influence economic policy.