Regardless of who is to be blamed, the reality is that the economy is in quandary, and a recent statement by the foreign affairs minister that we should brace ourselves for at least three more years of hardships confirms it.
Policy Talk with Tinashe Kaduwo
Economic activity has shrunk dramatically and the concern to an average bread winner is not what happened in the past, but what the future really hold. The real dilemma or challenge facing this government though is that the economy may have well and truly entered stagflation, an unnatural phenomenon outlining an economic condition combining slow growth and relatively high unemployment with rising prices, or inflation. Authorities seem to be cognisant of this situation as recent monetary policy, though meant to support SI142, largely comprise of actions, which are traditionally used to control stagflation.
By increasing interest rates, which most banks have or are implementing, the RBZ governor seems to have set his primary macroeconomic objective as reduction of inflation, even if this causes higher unemployment and lower economic growth in the short-term. The intentions may be noble, however, it may not be so simple. Monetary policy in essence controls inflation through increases in interest rates, in-turn increasing the cost of borrowing and reducing aggregate demand. Now this may or may not work well in reducing inflation in an economy suffering from stagflation. One thing is for sure that the aggressive rise in lending rates invariably cause a much bigger fall in the country’s GDP growth, in-turn exacerbating the very problem of stagflation itself, especially in an economy which already has a very low growth rate.
Increasing rates in this economy is likely to have even more shortcomings which calls for in-depth understanding of the real drivers of inflation (at 176% as at June 2019) and the leverage that an interest rates actually has on spending or on influencing aggregate demand.
The mistake most people make is looking at Zimbabwe’s inflationary phenomenon through the Western prism. Zimbabwe’s inflation push is totally different, as it is not being stoked by the traditional factors. Inflation in the country is being driven by rushed reintroduction of a local currency, in an economy that had self-re-dollarised and ultimately, a depreciating currency in an economy that is heavily reliant on imports of a fairly inelastic nature. Another driver is an ambitious and fast track revenue drive by this government in the name of austerity. Taxes have not only gone up, but the policy or aggressive rise in taxes was done instantaneously.
Furthermore, the adjustment of rates has resulted in a rapid and steep rise in cost of borrowing for the local manufacturing that naturally reflects in the end prices to the consumers. In effect what this means is that monetary tightening in the traditional sense will just not work. What the policymakers need to be mindful of is that the economy does not work in the credit entrenched way as the western economies do and excessive raising of rates will only further distort the supply side dynamics with little success in taming core inflation. Also, there is no real weightage of wages in the inflation, since the local wages in absolute terms are already very low or perhaps not sustainable to feed an average sized household.
Clearly, Zimbabwe’s inflation has completely different dynamics and is being largely driven by government’s own policy measures and not due to any external factors. The local currency has been depreciating rapidly since inception and together with an already compromised average individual disposable income, due to an increased burden of new taxes, hikes in the interest rates only further hurt the already struggling domestic industry’s competitiveness, thereby further compromising employment generation and poverty level in the economy.
Rather than increasing rates, authorities need to bring down rates but do so gradually. The sheer downward direction will deliver a powerful message that the government wants to enhance economic activity and not curtail it. It will also do the government good to facilitate increasing of aggregate supply through supply-side policies, such as privatisation or otherwise quickly resurrecting SOEs, deregulation reforms to increase efficiencies and announcing policy measures that directly aim at reducing costs of production for the domestic industry. That is the only way out of this menacing economic situation.