- Zim dollar continues to gain momentum on formal market
- However, PMR is telling the other story
- Just like blended inflation, is government massaging the rate?
Harare- During the second week of the highly contested elections in Zimbabwe, the Zimbabwe dollar experienced a depreciation of 1% on the willing buyer willing seller interbank market. Although this depreciation rate was more significant than the 5-week period preceding the elections, during which President Mnangagwa emerged as the victor, it remains relatively modest when compared to the depreciation observed in the parallel market rate.
The economy of a country can be understood as a composite outcome of two distinct markets: the formal market rate, which primarily relies on government statistics and is largely controlled by the government, and the parallel market rate, which operates with minimal government intervention. The parallel market rate serves as a benchmark to assess the accuracy of government policies and their impact on the economy and the overall performance of the currency.
The formal market rate, influenced and regulated by government measures, often reflects the official stance and objectives of economic policies. However, the parallel market rate, being independent of direct government control, provides an alternative perspective on the state of the economy. It serves as an indicator of market forces, including supply and demand dynamics, investor sentiment, and the level of confidence in the currency.
By comparing the formal market rate with the parallel market rate, analysts and observers can gauge the effectiveness and credibility of government policies in managing the economy. A significant divergence between the two rates may signify underlying economic imbalances, such as currency devaluation, capital flight, or restrictions on foreign exchange transactions. It can also indicate the presence of informal or illicit economic activities.
parallel market rate is a currency exchange rate that reflects the response of the currency to prevailing economic forces. When economic conditions are stable and well-managed, the parallel market rate and the formal market rate tend to align closely, or at least have a difference of around 10%. The parallel market operates with greater freedoms compared to the formal market, where government interventions may be necessary to maintain economic equilibrium.
In a functioning economy, the formal market rate is influenced by government policies and interventions aimed at achieving specific economic objectives. These interventions can include central bank interventions, capital controls, and other regulatory measures. The formal market rate is typically based on official data and reflects the government's desired exchange rate.
On the other hand, the parallel market rate operates with less government interference and is driven by market forces such as supply and demand dynamics, investor sentiment, and economic conditions. It reflects the perceptions and actions of market participants seeking to exchange currency outside the formal channels.
When economic conditions are favorable and well-managed, the parallel market rate should closely align with the formal market rate. However, if economic imbalances, such as excessive inflation, capital flight, or restrictions on foreign exchange transactions, exist, the parallel market rate may deviate significantly from the formal rate. This deviation can indicate market concerns, inefficiencies in the formal market, or the presence of informal economic activities.
In the most recent willing buyer willing seller auction market, the exchange rate for the Zimbabwe dollar against the US dollar was ZWL4.6k. However, in the parallel market, the rate was significantly higher at ZWL7.5k, representing a premium of 39% compared to the official rate. This premium indicates that the parallel market rate is nearly double the official rate.
The existence of such a substantial premium in the parallel market highlights a significant deviation between the two rates. It suggests that there are underlying economic factors or market dynamics driving up the demand for foreign currency in the parallel market. These factors may include limited access to foreign currency through official channels, concerns about the stability of the local currency, or the presence of informal economic activities.
The parallel market rate often reflects the supply and demand dynamics of currency in an alternative market that is less regulated by the government. This market can be influenced by factors such as economic uncertainty, inflation, capital flight, and the availability of foreign currency.
The significant premium observed in the parallel market rate indicates a lack of alignment between the formal market and the market forces at play in the parallel market. It underscores the challenges faced by the Zimbabwean economy in managing the exchange rate and containing the demand for foreign currency.
The emergence and persistence of a parallel market can indeed be fueled by strict currency controls or restrictions on foreign exchange transactions. These controls create a disparity between the official exchange rate and the actual demand for foreign currency, prompting individuals and businesses to seek alternative channels to acquire foreign currency.
In the case of Zimbabwe, the government has implemented deliberate measures to regulate the currency market. This includes imposing restrictions on exporters, such as requiring them to surrender a portion (25%) of their foreign currency earnings. Additionally, the government has delayed payments to suppliers, effectively managing the supply of the local currency (RTGS). These measures are aimed at balancing the demand for US dollars with the available supply of RTGS.
However, despite these efforts, the parallel market rate has remained resistant to decline. This suggests that market participants are aware of the government's actions and the manufactured equilibrium being created. They recognize that the official exchange rate does not accurately reflect the actual supply and demand dynamics in the market.
The persistence of a stubborn parallel market rate indicates that the market participants are not fully convinced by the government's measures or the effectiveness of its policies. They continue to seek foreign currency through alternative channels, resulting in a parallel market that remains active and resilient.
Economic instability, characterized by factors such as high inflation and fiscal deficits, undermines confidence in the domestic currency and stimulates demand for foreign currency. This heightened demand for foreign currency subsequently pushes up the parallel market rate. In the Zimbabwean context, the official inflation figures may indicate low inflation alongside currency depreciation, but the reality on the ground suggests a different scenario. Zimbabwe employs a blended inflation measurement that considers price increases in both US dollars and Zimbabwe dollars. This methodology obscures the true inflationary pressures as the Zimbabwe dollar experiences significantly higher depreciation compared to the US dollar. As an illustration, the price of a loaf of bread increased from 90 cents in 2016 to one US dollar in 2023. However, when using the Zimbabwe dollar price, the cost escalated to 4.6 thousand Zimbabwe dollars. By manipulating inflation figures, the parallel market is not deceived as it operates based on genuine market forces.
In Zimbabwe, the inflation measurement approach has been a blended one, considering both price increases in US dollars and Zimbabwe dollars. This approach aims to incorporate the impact of currency depreciation on inflation figures. However, there have been concerns that this method may not fully reflect the true inflationary pressures experienced by consumers.
For example, using your illustration, the cost of a loaf of bread rose from 90 cents in 2016 to a dollar in 2023. However, when using the Zimbabwe dollar price, which reflects the significant depreciation of the currency, the cost has risen to 4.6 thousand Zimbabwe dollars. This discrepancy between the official inflation figures and the real market prices can create a sense that inflation is lower than what people are experiencing in their day-to-day lives.
The measures implemented by the government to control the exchange rate in Zimbabwe are not perceived as convincing because they are seen as temporary solutions. It is believed that once the government starts paying suppliers, exporters, and investing in projects, the exchange rate trajectory will decline. This suggests that the current state of the Zimbabwean economy is characterized by illusions and inaccuracies. Inflation figures are considered to be inaccurate, exchange rates are manipulated, and the liquidity situation is based on weak fundamentals. These factors contribute to a lack of confidence in the stability and reliability of the economic environment in Zimbabwe.
The recent appreciation of the Zimbabwe dollar can be attributed to the suspension of the complete payment of the 25% surrender portions for exporters. This has resulted in increased export receipts, amounting to over US$500 million monthly. If the full 25% component of these receipts were paid upon delivery, it could potentially provide a significant amount of Zimbabwe dollars, enabling them to compete with the US dollar. However, the deliberate decision to halt these payments has temporarily helped to mitigate the depreciation of the Zimbabwe dollar.
It is important to note that the government has not yet fulfilled its obligations to pay exporters. Once these payments are made, a substantial influx of Zimbabwe dollars is expected to enter the market. This influx has the potential to significantly impact the exchange rate. For instance, there are unfinished or abandoned infrastructure projects along Bulawayo Road, indicating that suppliers involved in these projects have not received payment, leading to the cessation of operations. Once these suppliers are paid, a sharp increase in the exchange rate is anticipated.
The government is indeed aware of the situation and is expected to adopt a cautious approach to prevent market panic. It is likely that payments to suppliers and exporters will be made in smaller instalments to avoid a sudden surge of money into the market. This strategy aims to maintain stability and prevent excessive fluctuations in the exchange rate. Furthermore, the construction industry is expected to experience a slowdown as the government seeks to balance the supply and demand of the Zimbabwe dollar by reducing the pace of its construction projects. These measures are intended to provide short-term stability to the currency.
However, it is important to recognize that these measures are temporary, and the underlying economic challenges remain. Given the weak economic fundamentals, there is a risk that the currency will face significant challenges in the long run and may potentially experience a rapid devaluation. It is crucial for the government to address these fundamental issues and implement sustainable economic policies to ensure long-term stability in the currency and the overall economy.