These last four weeks have been a rollicking ride for the Zimbabwean economy. What began as a promising cabinet announcement in September turned into a maelstrom of fiscal and monetary announcements. The parallel premium for RTGS began September at 75%, and hit 215% yesterday afternoon (and reportedly, even higher). We have a new money transfer tax on the horizon. There are fuel queues all over. There is talk of bread rationing in the shops. And for the first time since those heady days of hyperinflation, there are reports that some retailers are now insisting on payment in cash.

On the plus side, we also rebased Zimbabwe’s economic data on Friday – so on paper, our economy is now 40% larger than it was on Thursday.

“It was the best of times. It was the worst of times.”

The tale of two cities has never felt quite so real.

Because there are essentially two narratives that are playing their way out on social media and in the economy:

  1. The “HERE WE GO BRACE YOURSELVES THIS SH*T AGAIN” interpretation of events – which says that it’s all going to hell in a hand-basket; and
  2. The “Transition is sh*t, but that’s the only way we’re getting out of this” interpretation of events – which is the politically-expedient way of saying that the hand-basket has arrived at its destination, and the only way out is through.

Or, as Churchill put it:

“If you’re going through hell, keep going…”

Now let me be upfront: I believe that the correct narrative is the second one.

But even if I’m right, it doesn’t mean that I’m right. Because unfortunately, truth is…dynamic in these high-intensity situations.

Just like the run on the bank in Disney’s Mary Poppins, ‘reality’ can sometimes turn into an outcome of the feedback loop between anxiety and confirmation bias. And when you get caught in that loop, then beliefs matter more than truths.

But now that you know the ending of this post, let’s do the middle part.

What the hell is going on?

Here is a list of things that we’ve had confirmed to us by government since September 1:

  1. The budget deficit has soared even more than we expected. In the lead-up to elections, government overspent by about $1.4 billion.
  2. The deficit was financed by treasury bills and an overdraft facility at the Reserve Bank.
  3. That is: that deficit was effectively financed by an increase in the RTGS money supply.
  4. From the Minister of Finance’s Transitional Stabilisation Programme document: “Annual growth in money supply to May 2018 stood at 40.8 percent, from US$6.5 billion last year to US$9.1 billion, underpinned by growth in domestic credit of 47.3 percent, mostly to Government.”
  5. Also: “Net credit to Government stood at US$6.2 billion as at end June 2018, up from US$3.9 billion as at end June 2017.”

What does that all really mean?

It means that government has been borrowing money to pay civil servants (90% of it). And they’ve also been borrowing money to pay for command agriculture, grain imports, and some of the other programs (I’m sure the precise details will become more clear over time).

But the important point is that most of the borrowed money gets re-injected back into the economy – because the civil servants then spend their salaries on rents and groceries and so on.

And at some point, some of that money would end up being saved, or used to pay for an import. At which point, the saver or the importer would want to change that new RTGS into real USDs.

And the more RTGS there is being injected into the economy, the more RTGS there is chasing the limited supply of real USDs being created by the small number of exporters in the market.

Here’s the math:

RTGS 1 = USD 1

but then RTGS supply is increased by 20%:

RTGS 1.2 = USD 1

but then RTGS supply is increased by a further 40%:

RTGS 1.68 = USD 1

and so on

And here we are.

There’s effectively a new local currency (the “RTGS” or “bollar” or “zollar”), which we’ve been using for the last 2 years. There’s a parallel market for foreign currency. Prices have been going up to reflect how the local currency has been weakening. And there’s a large informal market that has arisen on the back of:

  1. cheaper smuggled imports from South Africa; and
  2. the lower costs of informal business thanks to all the red tape and ZIMRA compliance that they don’t have to deal with.
This is not good.

Obviously, the situation is not tenable. It’s another feedback loop:

  1. As the premium goes up on RTGS, there is increasingly more pressure on exporters and diaspora remitters to try and get the true ‘RTGS’ value for their foreign currency, as their RTGS-cost of doing business keeps rising;
  2. This drives up the RTGS premium, because there is less foreign currency available through the formal banking channels;
  3. Importers then raise their prices to account for rising RTGS premiums;
  4. The economy rushes to stores of value in order to prevent the value-loss to their RTGS;
  5. This drives up the premium on RTGS;
  6. And we’re back to point 1.

It also doesn’t help that the foreign investors are looking at this and deciding to hold off on their investments until the crisis resolves itself.

How do you solve a monetary crisis?

So here’s a laundry list that I would have given you back in early September:

  1. Liberalise the exchange rate. You need anyone generating foreign currency to be able to secure true value for it. Otherwise, for exporters, the cost of generating that foreign currency will become too high for it to be feasible for them to generate it in the first place.
  2. Stop this deficit. If you keep increasing the RTGS supply, this is only going to get worse.
  3. Get some foreign funding. We need real foreign currency to be injected into the system – preferably after you fix the deficit.
  4. Take the hit already. There is going to be an adjustment period. People are not going to like it. I’m not sure how you get around that – but we’re running out of time.
About that laundry list…

In the last week or so:

  1. We’ve taken the first steps toward liberalising the exchange rate. At the very least, ring-fencing foreign earnings into “nostro FCAs” sends a signal to people that they can secure the value of their money. It’s not perfect, and there are real concerns that those nostro FCAs will be raided at some point – but unfortunately, the trust cannot be proven in advance. But if those “nostro FCAs” prove themselves (and remember that export remittance requirements mean that exporters will still have to bring in their proceeds), then we may well see a shoring up of reserves that would allow a fuller liberalisation of the exchange rate.
  2. That money transfer tax… Personally, I feel that a deficit reduction is always more palatable if it starts with a government spending cut. But instead, we’ve started with a broad-reaching transaction tax – which might be the only quick way to get a result. I’ll address this more below. But let’s not forget that the money transfer tax was first suggested by Eddie Cross, a former MDC legislator and an economist. He suggested that it be 5%, not 2%. And that no one would even notice it.
  3. Foreign funding? Let’s see how the Finance Minister’s trip to Bali goes. Hopefully, there is progress on this front. I mean, there was a massive new tax announced to address the fiscal deficit – and that feels like the kind of pro-action that the world of foreign aid likes to see.
  4. Taking the hit. Well, I think that we’re taking the hit. Although my suspicion is that we’re taking the full hit for a half-measure – but that may be because the hit was taken too late. I drove past my first whisper of a fuel queue a few weeks’ ago already.
The money transfer tax: initial thoughts

I watched the Monetary Policy Statement announcement on October 1 via live-tweet. When Professor Mthuli Ncube stepped up after the Reserve Bank Governor to announce fiscal support measures, my immediate thought was “Oh. My.”

Then the change in the Money Transfer Tax was announced – from 5 cents per transaction to 2 cents per dollar transferred.

I wrote this in a message that afternoon:

But yoh. This across-the-board 2% increase in tax. I can’t believe.

Just to put that into perspective. It used to cost us $0.05 or so to pay salaries. If we pay $90,000 in salaries, it will now cost $1,800 to do it.

If you think about buying something in the shops – the importer will pay an extra 2%, the distributor will pay another 2%, the retailer will pay 2%, and then the consumer will pay 2%. That will all be passed on through pricing. Basically, that’s up to an 8% tax on final consumption.

And it slid in there, hidden by all the “OMG – WHAT IS THIS NOSTRO FCA?” outrage.

Everyone on twitter is all “THE ZIM DOLLAR IS BACK”.

Folks, that is the wrong story.

Then the news began to sink in. And the panic ensued.

It was only on Friday that a clarification was issued:

Zimbabwe intermediated money transfer tax

Which was supported by comments made by the President yesterday, defending against criticism of the tax:

“I am sure you have not studied who are exempt from that tax. If you had taken care to study the exemptions of the 2 percent (tax), some of the issues you have raised, you would not have raised because they are already exempt.

“The transfers between companies, company-to-company, salaries, employment transactions and so on . . . there is a list of such exemptions that are there,” responded President Mnangagwa.

Unfortunately, there was still a week between the announcement and the clarification – which was enough time to cause a panic.

Because, naturally, business would immediately slow down in response to that kind of blanket 2% tax announcement. Pricing needs to adjust. The supply chain freezes, not knowing what it can and can’t supply without becoming loss-making. Fuel traders, governed by their thin margins (the maximum margin that a fuel retailer is permitted is 6 cents), are deeply disincentivised to continue buying fuel – even if they have access to forex allocations.

There are ripple effects as well – because those that hold USD cash now hold off on selling it, waiting to see what impact the tax will have. That causes the rate to sky-rocket. Those that hold RTGS then furiously try to convert it, seeing the rates blow out, which further drives up the rates.

And then operators start insisting on cash payments…

Also…

All the talk of premiums and rates caused this kind of situation to occur:

rate confusion

Which does not help the panic. Because people don’t know how to think about premiums and rates once the premium pushes past 100%.

And suddenly, a rate of RTGS 3: USD 1 sounds like a premium of 300% when it’s actually a premium of 200%.

It’s a powerful combination, all this.

But is the intermediated money transfer tax a good idea in principle?

Let me try and frame this question more clearly, because I think the underlying assumptions are where things come unstuck.

Here is what I assume:

  1. The budget deficit is not going to change overnight. That is: the level of government spending cannot be fixed this afternoon.
  2. So the short-term options are: either government taxes more; or it continues to borrow through the issue of treasury bills.

I fully concede that it would be better that government spending be fixed this afternoon. And we would all prefer both no taxes and no further government borrowing.

But to be realistic, however you feel about the culpability for this current state of affairs, the economy only has two immediate options:

  1. Pay tax directly via this higher tax on money transfers; or
  2. Pay tax indirectly via the inflation tax on bank balances (ie. by the weakening of the RTGS rate that follows from increases in borrowing).

Either way, money is being taxed.

To illustrate, say that I earn $1,000 per month at an RTGS rate of RTGS 3 to USD 1.

  • Under the new tax, I pay 2% in money transfer tax, and government does not borrow this month.
  • Without it, government has to borrow money through the issue of treasury bills, and the RTGS rate weakens to RTGS 3.5 to USD 1 by my next paycheck.

Here is the tax I effectively pay:

  • With the new tax, I pay RTGS 20 in tax. My salary is worth USD 333 next month.
  • Without it, I pay no money transfer tax this month. My salary is worth USD 286 next month (ie. an effective tax of USD 47).

The choice here is between a transparent tax and an undercover one.

Yes, it would be nice to have an option of “neither”.

But this option is no longer probable.

The other upsides

These past four weeks have been difficult. But here are some new elements that we have not seen before:

  1. Transparency – while not always accompanied by enough clarity, the new administration has made a real effort to be transparent. There is a new openness about the economic problems that Zimbabwe’s government faces, and the steps that are being taken to address them. Even the money transfer tax itself is more transparent than simply printing treasury bills.
  2. Flexibility – when the market pushed back against the money transfer tax, adjustments were made. It took four days, but the impact on the poor was alleviated (by exempting the tax on transactions under $10), and the impact on the formal business sector was addressed as well (by exempting salary payments, foreign payments, etc). The implementation date was also pushed back.

So those are positive changes.

How does this end?

I guess this is the important question.

Here are two possible answers:

  1. If the market agrees to see this as an adjustment phase, and works with this effort towards transparency and flexibility, then this ends in monetary stability. Both Zimbabwe’s government and Zimbabwe’s market find a way to reckon with the currency dilemma, and we adopt a new monetary regime that is market-based and transparent. That could be the Rand, or a new currency that is subject to external supervision, or some other monetary solution.
  2. If the market does not agree with the current process, then this ends in re-dollarisation. Zimbabwe’s economy reverts back to USD cash, as it did in hyperinflation, and the entire pricing spectrum rebases itself from RTGS back into USD. At some point, the banking sector re-bases itself as well – and we revert back to 2009.

After years of writing about Zimbabwe’s monetary and economic crises, my sense is that market-driven re-dollarisation is only a short-term solution.

At some point, we are going to have to reckon with the long-term currency question, and try to find a way to implement it.

So my personal hope is that we do not waste this crisis. The economy has spent the last two years de-dollarising – if we can push through, then we may end up better off.

But if not, then we’re back to where we started. Which is not the best outcome, but it’s not the worst either.

After all, we’ve dollarised once before. We’d still be just as vulnerable to situations where a balance of payments crisis can spark a domestic currency crisis. But perhaps we’d prefer that to the alternative.

Only time will tell.

Rolling Alpha posts opinions on finance, economics, and sometimes things that are only loosely related. Follow me on Twitter @RollingAlpha, and on Facebook at www.facebook.com/rollingalpha.