Now that the Reserve Bank of Zimbabwe, with Government backing, has lucked out and established a functioning mechanism of establishing the exchange rate, it needs to avoid the temptation of trying to manage this rate and start moving towards the eventual dedollarisation of the economy.
Exchange rate management is a temptation that the reserve banks of this country have been unable to resist, and at times were positively commanded to perform, for almost 57 years and that has helped to create cycles of boom and bust that were unnecessary, with a fair amount of the boom being possible through other means and the busts normally being triggered by bursts of inflation when the management was overtaken by events.
Among other evils the management created and maintained a black market, and at times that market came to dominate the economy with rather seedy individuals in crummy flats deciding how our economy would perform.
In precolonial times Zimbabwe was connected with the gold currency, gold being a major export. Traders exchanged an assortment of goods for gold dust panned or sometimes mined, with ivory and some rather fine cotton cloth woven in the Mutapa kingdom being the other trade goods. It worked.
As the trading became more organised gold coins from South Africa started circulating as well. With the arrival of the invasion forces of Cecil John Rhodes his company area was swiftly integrated into the sterling zone, and as the British had effectively a few years before converted their large Cape Colony from assorted local currency based on the colonial Dutch system to sterling coins minted in Britain we were automatically sterlingised.
And so it went. There was a complication after the First World War when South Africa remained on the gold standard when Britain, and its colonies which included us, went off. The South African sovereign was worth quite a bit more than a pound of silver coins, so the obvious happened and sack loads of half crowns were being carried around as people arbitraged. That was quickly sorted out as South Africa dumped the sovereign and went for paper.
Later a currency board was set up for Southern Rhodesia, and expanded for the rest of Central Africa to cope with the problem of small change. This even saw a five shilling note, unique in the British Empire. The board metamorphed into the Reserve Bank of Rhodesia and Nyasaland, the mother in direct line of our own Reserve Bank of Zimbabwe. The central African pound was 1-1 with sterling and the South African pound although visitors had to swop bank notes at banks and swop coins, at a discount, with odd people hanging around airports, perhaps the start of our black market.
Capital movements within the sterling area were totally open until Robert Holmes de Court liquidated his Southern African interests, including those in Southern Rhodesia, to emigrate to Australia and limits were placed for future capital movements within the sterling area.
In November 1965 Ian Smith declared UDI, Rhodesia was dumped by the sterling area and the reserve bank started its more than half century of currency management. For the first couple of decades this was easy. Possession of foreign currency was banned, like you went to jail if you had some. So just like the rouble and other currencies where there was a steel wall around the local currency the monetary authorities could set it at what they liked.
And what they liked was a high value currency, with Smith refusing to follow the British and associated South African devaluations so at independence the Rhodesian dollar was worth US$2. This was quite fictitious of course and bore no relation to reality, but the UDI regimes had maintained the tight management by simply making the currency totally non convertible and jailing anyone who tried to own any foreign currency.
The new legal government after independence adopted the same policy, although adjusted the exchange rate somewhat but kept the wall in place, although there was more leakage since the numbers who could get hold of foreign currency were now so dramatically larger. This limped on until the wheels came off, as they will do when you try and have a closed economy; you get a couple of decades of fast growth, then growth inches along and then stagnation.
ESAP came with IMF backing, but the opportunity was wasted. Too much was spent on consumer goods and the lack of budget reform was a serious problem. There was even an attempt at a managed auction, and that collapsed on Black Friday and then with our hands up we went into hyperinflation but with an official exchange rate that had no link whatsoever with reality, although those who managed to buy foreign currency at official rates through “contacts” made serious money.
The whole mess crashed with dollarization, which was quickly circumvented by those on the make through the budget mess. We had the black market emerging between electronic US dollars and real notes and once again pretend exchange rates, theoretically in the same currency but in practice there was already a local currency, although it was not called that.
After the fiscal reforms there was some hesitation then the local currency came back, with the black market established under dollarisation starting to flourish and exploding in 2020. That opened the door for the auctions, which settled down to rates below the black market and worked, until once again we started having increasing levels of management.
Some degree of management was needed at the start of the auctions to actually get a bid range that made sense. But then it continued.
Working on the fundamentals the Reserve Bank tried to stabilise the exchange rate through allotting on the lower bids to ensure the weighted average remained fairly stable, inching up but not by much in 2021. That could only be maintained by allowing backlogs to grow between allotment and funding. Management does not often change reality. So the black market grew again and then exploded, again, this year.
Before the explosion the management had been moderated with the auction average allowed to rise at moderate second-gear speed, but it was still managed despite the opening to reform. The introduction of a small interbank market at the beginning of April started seeing some of the cash in the huge nostro accounts actually moving into bank dealings, with the rate rising at a fair clip.
The black-market explosion and associated inflation in April created another opening, with prices rocketing as businesses switched to black market rates of exchange. Yes the authorities wanted to choke the black market and announced a series of measures to dry up liquidity, especially liquidity used for speculation in that market and the Zimbabwe Stock Exchange and other areas.
But this time they also took a deep breath and went for extreme low levels of exchange rate management, at least of the exchange rate although high levels of input from the Reserve Bank were needed to open the auctions.
The past two auctions saw a determined effort by the authorities to align the weighted average with the interbank rate which was functioning without management, at least of rates although rules were in place over sums that could be traded, the ban on cash withdrawals from the new market and the need for bought currency to be used to pay bills, not be stashed away in nostro accounts.
The big change was on May 17 when most bids were blocked for being too low. This week the bidders started understanding what the authorities were doing, aligning the average with the interbank rate, and bid appropriately so most obtained their allotments. And the rates are now aligned so everyone knows where they are.
There will obviously be a short pause while the new alignment is made perfect, with the interbank market funding the small business purposes, which could see a decline in SME auction bids, and the auctions handle the bulk sales of currency.
But the future should be seeing a double process. The interbank market growing and some sort of persuasion and pressure for more of the hoarded retained export earnings to enter the interbank market. The management by the authorities must be on smoothing the opening of the interbank market, rather than trying to set rates. Inflation rates should soon fall again, and eventually fall sharply.
In the end Zimbabwe needs to be using an interbank market run by banks on pure commercial principles, as it is at the moment, but one that transacts most of the foreign currency dealings. With a positive current account this is feasible, but it does require iron nerves and a willingness not to try and manage what that interbank rate will be.
The rules ensuring that interbank money must be used to pay legitimate foreign bills is good idea, probably essential, but we need to accept that this market must become the central market for commercial transactions, with the auctions just being the bulk supplier.
We must learn that trying to manage the exchange rate simply does not work and that management can be narrowed to money supply and spending rules.