eBusiness Weekly
Kudzanai Sharara
Taking Stock
Early this week the Reserve Bank of Zimbabwe put in place a raft of measures meant to deal with the twin evils of price and exchange rate instability.
Reading between the lines there seems to be a tacit belief by the monetary authorities that there is too much money circulating in the economy.
One can’t blame the monetary authorities for having that belief, after all, theory says inflation is always and everywhere a monetary phenomenon.
The age-old definition of inflation is that it’s a result of too much money chasing a few goods.
Whether the few goods are a result of supply bottlenecks caused by Covid-19 disturbances or brought about by the Russia/Ukraine conflict is beside the point. Inflation is always and everywhere a monetary phenomenon.
The Monetary Policy Committee noted as much and said rising prices of oil, gas, fertilisers and other related products had the effect of increasing global inflation and inevitably had a negative impact on domestic costs of production and was destabilising the foreign exchange market.
Officially, on the foreign currency auction system, the Zimbabwe dollar has lost 32 percent of its January value. It started the year at $108 per US$1 but is now trading at $142 per US$1.
On the parallel market, the local dollar which started the year changing hands at approximately $210 to US$1 is now trading above $300 per US$1.
On its part, inflation stood at 72,7 percent at its last count in March 2022. A higher rate is expected in April.
Both price and exchange rate instability prompted the central bank’s Monetary Policy Committee to take action.
While the measures are meant to stabilise prices of goods and services as well as stabilise the exchange rate, they also have an impact on the stock market.
Here’s how
The first measure by the central bank was an upward adjustment of the bank’s policy rate from the previous 60 percent to 80 percent.
Another related measure was an upward adjustment of the Mid Term Bank Accommodation Facility Interest Rate from 40 percent to 50 percent. Such high cost of borrowing will significantly restrict individuals and businesses’ capacity to borrow.
As a general rule of thumb, when central banks raises interest rates, it causes the stock market to go down; and when the apex bank cut interest rates, it causes the stock market to go up.
With the upward adjustment of interest rates, the market might suffer increased outflows and downward pressure on share prices if institutions that find borrowing expensive limit fund inflows or decide to meet their funding requirements by offloading shares.
Higher debt expenses for listed entities also mean the estimated amount of future cash flows will drop and ceteris paribus, this will lower the share price of heavily borrowed companies.
Lowered growth and future cash flows expectations also mean investors will not get as much growth from stock price appreciation. This can make stock ownership less attractive.
Listed banks also stand to benefit from the interest rate hikes as they can charge more for lending. However, there is a chance they can also get reduced lending business as corporates and individuals shy away from expensive borrowing.
Rising interest rates can also result in both businesses and consumers cutting back on spending. This will cause earnings to fall and stock prices to drop.
The third measure put in place by the central bank is an upward review of the minimum deposit rates for local currency savings and time deposits from 10 percent and 20 percent per annum to 12,5 percent and 25 percent, respectively.
While this is meant to encourage savings, investors will still get negative real interest returns hence finding savings unattractive.
The move will thus not have much of an impact on stock market investments which has given investors better returns despite higher levels of risks associated with the equities market.
As of Wednesday and for just above three months, the Zimbabwe Stock Exchange All Share Index had gained 52,05 percent since the beginning of the year which is more than double what is paid for time deposits per annum.
The fifth policy measure was on further tightening of monetary policy by reducing the quarterly reserve money growth target from 7,5 percent to 5 percent for the quarter ending June 2022.
This measure is meant to reduce the amount of money in circulation. As pointed out earlier, inflation is always and everywhere a monetary phenomenon and by further tightening money supply, fund flows into the market could also be affected.
When money supply is decreased interest rates will go up while business and consumer spending fall.
When business has less money to spend, its not able to expand its operations and improve product supplies. Consumers also will not be able to spend which means business has to cut back on production.
A decrease in earnings makes businesses less attractive resulting in a decrease in stock prices.
Also, a tightened money supply at a time business is in need of funding or facing viability challenges could result in some entities defaulting on their pension contributions and by extension funds into the stock market would be affected.
In 2021 contribution arrears increased by 155,06 percent, to $4,27 billion from $1,68 billion reported as at December 31, 2020.
The increase was mainly driven by continued non-remittance of contributions by some sponsoring employers as they faced among other things “viability challenges.”
