By. Dr. Mbita Chitala – Public Policy Analyst
I have been challenged by many of my colleagues and students to state my opinion and offer advice on what could be done to resolve some of our economic challenges. These are my views.
Why is the Kwacha falling like a domino? The answer is not because of the eight months rule of President Lungu as some would like us believe or a creation of any Zambian. These economic problems have their genesis in the global economy. Kazakhstan’s Tenge tumbled more than 20% on Thursday against the dollar when the country said it would adopt a free-floating currency (pretty the same as Zambia). Vietnam devalued its currency for the third time this year. And this phenonomena is evident in all so called free markets.
For the past decade or so years, Zambia has enjoyed positive growth in excess of 8% of GDP spurred by global growth, high copper prices, low interest rates and a weak U.S. dollar. But now, Zambia’s main stay copper and other commodity prices are dropping. There has been an economic slowdown in China and the prospect of the Americans hiking interest rates soon mean our economy will be in deep trouble.
Early in September, 2015, China allowed its currency to devalue, sending the year down about 2^ against the dollar. Currencies in other countries such as South Africa, Brazil, Russia, Turkey and so on have also plunged down this year.
Furthermore, uncertainty surrounding China’s economic growth and the impeding interest rate hike in the US could send our currencies even lower, especially so in the case of Zambia, as our growth estimates of our copper export prices continue to fall.
This global economic debacle has in some cases led to currency wars in which countries compete to devalue their currencies against other countries to boost their exports.
In our country Zambia, we are experiencing a currency crisis – a situation where the value of the Kwacha has depreciated in a very short time and has continued to adversely affect the wider economic woes with long lasting repercussions.
This Kwacha crisis has emerged because many citizens now doubt that the Bank of Zambia has sufficient foreign reserves to maintain our exchange rate. The Bank of Zambia has tried to fend off this Kwacha crisis by satisfying the excess demand using our country’s reserves by releasing foreign currency on the market. But, this is temporary and it has not worked.
There is no widely accepted definition of a currency crisis but it is generally agreed that a currency crisis emerges when a nominal depreciation of a currency of at least 25% but it is also defined at least 10% increase in the rate of depreciation. Our Kwacha has suffered both.
WHY THE KWACHA IS DEPRECIATING
There are at least three things that can bring about a currency collapse:
First, is the speculative attacks in which people perceive that there will be a drop in the value of the Kwacha in the future and they tend to opt to sell their Kwacha to avoid a loss. As they sell their Kwacha, the value of the Kwacha begins to decline and the Bank of Zambia is forced to buy up excess Kwacha to keep the exchange rate stable. As the value of the Kwacha declines, people may begin to panic, selling off more of their reserves and causing the Kwacha to fall even further.
This speculative attack as we are witnessing it now, may be because of the huge public debt that is growing and people may suspect that it is not sustainable. The result of this speculative attacks can be fatal to our economy and if not addressed can cripple our government because, in due course, the government may fail to service its debt, since the Kwacha will have devalued so much that it is impossible to pay the debts when they fall due. It is important that our Minister of Finance must work smart and hard to address this potential challenge.
Secondly, runaway inflation can also lead to a currency collapse. The case of our sister neighbour Zimbabwe is most telling of a country that suffered political turmoil, hyperinflation and the collapse of the ZIMDollar. The Zimdollar was the official currency of Zimbabwe until January 2009 when the government legalized the use of other foreign currencies. This currency substitution is currently happening in Zambia. This measure for Zimbabwe led to the sharp drop in the usage of the Zimdollar and by April 12, 2009, te Zimdollar was abandoned as an official currency.
The Zimbabwean government has undertaken that they will only re-introduce the Zimdollar or some such national currency if industrial output would average 60% more of its current output capacity. In April, 2009, the output was 20%. It is important that Zambia ensures that we do not return to the runaway inflation before 1992 and that we increase our nations output by seriously diversifying our economy.
Thirdly, the government policy moves such as altering interest rates can also lead to Kwacha collapse.
Once a currency collapses, it is difficult for a nation to recover. Citizens will find that their savings are devalued. The cost of goods and services will rise as the nation is forced to pay much more for imported products. This is so for Zambia since our privatization destroyed our then buoyant manufacturing sector and our country has become a profitable market for imports.
On account of the Kwacha devaluation, foreign direct investment will be reluctant to come to Zambia or to invest in our Kwacha. From Germany in the 1920s to Argentina in early 2000 and Zimbabwe in 2009, the scene is the same: prices will sky rocket as personal savings are destroyed. Our government together with all well meaning citizens must combine their efforts to forestall this potential tragedy.
CAPITAL CONTROLS THE ONLY SOLUTION
As for me and many progressives, it appears our country has no option but to introduce some capital controls. It is not helpful for those charged with this responsibility at the Ministry of Finance and the Bank of Zambia to remain mum and think that the challenges will resolve themselves.
Capital controls are measures such as transaction taxes, other limits or outright prohibitions that a government can use to regulate flows from capital markets into and out of a country’s capital account. These measures may be for the whole economy or sector specific (e.g the Banking Sector) or industry specific (e.g. the Mining Industry)
Until the early 1970s, almost all countries had capital controls until the IMF and the World Bank persuaded all of us wrongly that capital controls were harmful.
Presently, particulary after the global financial crisis of 2008, many countries have adopted capital controls alongside macro economic and prudential capital controls to damp the effects of volatile flows in their economies. This has also been accepted by both the IMF and the World Bank as necessary policies directions.
If our Minister of Finance A.B.Chikwanda and his team were now to seek advice from the IMF, they would be advised to consider introducing prudential capital controls to deal with our current economic crisis. Failure to recognize this necessity, is not helpful to Zambia.
During the 2008-2012 Icelandic financial crisis, the IMF proposed that capital controls on outflows should be imposed by Iceland. In 2009, Brazil imposed a tax on the purchase of financial assets by foreigners and Taiwan restricted overseas investors from buying Time Deposits. The Financial Times has reported tightening of controls in Indonesia, South Korea, Russia, Peru and so on. Indonesia implemented a one-month minimum holding period for certain securities. In South Korea, limits have been placed on currency forward positions. Taiwan has restricted foreign investors to certain bank deposits.
PRUDENTIAL CAPITAL CONTROLS
As everyone knows, Zambia has in recent years, experienced huge capital inflows resulting from the expansionary monetary policies of our governments. These capital inflows are both good and potentially bad. Many countries that experienced similar inflows, adopted prudential capital controls to reduce the risk of financial crisis and prevent the associated externalities such as currency collapse. Prudential capital controls is a process where a country regulates its capital account inflows to mitigate systemic risk, reduce business cycle volatility, increase macro stability and enhance social welfare of the people.
Prudential capital controls are necessary for Zambia. The doctrine of free capital movement as demanded by right wing ideologists does not correlate positively with economic growth. That is why Joseph Stigliz and his colleagues have written to President Obama to repeal he law in America the punishes those nations that adopt capital controls.
Capital controls as India and China have shown, are a progressive policy paradigm as for instance, by limiting Zambians to own foreign assets, this would ensure that domestic credit is available more cheaply and Zambian businessmen would have an inexpensive source of loans.
Large uncontrolled capital inflows and unabated outflows mostly as illicit outflows as Zambia has experienced in recent years have damaged our country’s economic development. The inflows have become loans dominated in forex and the repayments will be very expensive as our Kwacha continues to depreciate. This is what is called the “original sin”- a situation where our country will not be able to borrow abroad in our Kwacha or to borrow long-term even domestically. The illicit outflows is known as capital flight where companies instead of exporting only dividends earned also are allowed uncleverly, to export all their gross earnings everyday.