Tuesday, August 4, 2009

Capital Flows and Zambia's Domestic Economy


By Dr Mabita Chitala

The question to be answered is weather there is need for Zambia to regulate its International Trade and regulate the movements of foreign exchange (forex) with the aim of reducing its exposure to financial speculators and the growing global financial turmoil. Should Zambia continue linking up to international financial markets or should it selectively de-link? What strategic choices are open to Zambia.


David Punabantu writing in the Zambia Economist Magazine of June, 2009 Vol. 1 pp5-7 wondered why the Bank of Zambia has continued unlawfully the policy of 100% forex retention by mining companies other than Mopani and other exporters which measure has tended to be discriminatory, stiffed the spirit of competition and allowed the continued plunder of Zambia’s resources. Punabantu lamented that this Policy which was initially introduced as short term measure by the late Minister of Finance Emmanuel Kasonde in the early 1990’s has now become a permanent policy of Government with all its draw backs such as abating capital flight, making commodities in Zambia unnecessarily expensive and negatively affecting the level of domestic investment in Zambia. Punabantu correctly argued for a change of this disastrous policy to one which is common in all other countries where ownership of forex is only possible through local currency (Kwacha) purchase for Goods and Services originating from a country such as Zambia. In other words, forex must first come to Zambia and be changed into Kwacha as used to happen when Zambia experienced the highest growth rates before 1990s. Exporters could then use their Kwacha to purchase Copper and other Exports from Zambia in the same way a Euro wishing to buy any product from the United States must first be converted into United States Dollar and vice versa if it is in Europe. Punabantu correctly concludes that Zambia’s 100% forex retention policy is not only against national development, but not market driven and tends to abate the pillage of Zambia’s Resources. Zambian policy makers are advised to take a leaf and learn from the experiences of countries such as Chile which abandoned this policy and required all exporters to bank their forex earnings in a local bank for a period not less than three months. In fact, Zambia appears to be the only country in the world with such a policy.


The present government policy buttered by IMF conditionalities has been to compel Zambia to make its currency freely convertible for all Current as well Capital Account transactions. Capital Account convertibility (CAC) of the Balance of Payments (BOP) or the freedom to convert Kwacha to forex assets and vice versa at market determined exchange rate or as the IMF has defined it, “the freedom from exchange controls on capital transactions on balance of payments”, continues to be a subject of controversy amount policy makers.

As it is well, the Current Account of the BOP (statement of transitions between Zambia and the world) comprises of visible trade {Exports and Exports},invisible trade {Exchange of Services} and unrequited transfers such as gifts. The Capital Account on the other hands refers to the exchange of capital in form of Loans, Portfolio Investment FDI and changes is official reserves. Transactions in the Capital Account can therefore impact on the composition of national capital of a country, that is, make a country lose control of its economy to foreigners and adversely affect its national sovereignty.

Zambia’s Policy has been to follow the no-liberal view which considers as bad policy state controls that restrict transactions on both the current and Capital Accounts. Therefore normal Current Account Controls such as restriction on imports such as providing quotas and tariffs or requirements to deposit export proceeds in Zambian Banks; and Capital Account measures such as restrictions on various harmful kinds of capital flows by licensing outflows or restricting use of forex including use of multiple exchange rates - all these are considered by neo liberal practitioners as undesirable as they allegedly distort markets and result in allocative inefficiencies, waste, black markets and are costly to maintain.

Neo liberals see many advantages in free flows of capital such that a Country like Zambia would have the chance and potential to access global savings in a variety of non- debt-creating forms, possibility of Zambians holding international diversified portfolio and the country being able to access greater liquidity sources and deeper markets. This thinking is anchored on the Efficient Market Hypothesis {EMH}which holds that “capital markets generate asset prices that, given available information, are best estimates of the present value of future income streams from capital assets.”

The above thinking when measured with the reality on the ground is of course flawed. Financial markets do not behave in the perfect manner but are grossly influenced by speculative behaviors.

The neo-liberals however still maintain that Zambia’s Financial System is still weak characterized by all vices such as insider trading, corruption and weak Corporate Governance and has not sufficiently liberalized financially. The standard recommendation of the IMF has been to compel Zambia to reduce its Capital Account deficit by borrowing. (Current Account Deficit = Capital Account Surplus + Drawing down on reserves). Within the confines of the so called Letter of Intent signed with the IMF are conditions such as compelling Zambia to keep interest rates high in order to allegedly attract capital inflows and improve investor confidence. Other policy measures Zambia has been forced to implement include fiscal prudence and consolidation, bringing inflation to single digit levels, maintain sustainable current account deficits and reserves, complete trade liberalization, strengthen prudential regulation and supervision and liberalization of the Capital Account.

The above prescription by the IMF and their neo-liberal friends in Zambia are wrong. The truth is that the Globalization of Finance Capital and the spread of footloose capital via FDI, Portfolio management, Debt contracting and so on, is a culmination of the process of unequal Capitalist Development in the world. Current Globalization has been shifting control of national markets of multinational corporations and financial intermediaries. Zambia’s domestic market is restrained. Interest rates are kept high to discourage Zambia’s domestic private investment. There is need for Zambia to adopt policies that promote full employment and growth. There is need to selectively de-link from Global Capital that threaten the achievement of the above. Evidence every where shows that free capital mobility has not been associated with high rates of growth. Neither trade openness nor outward orientation been associated with higher growth rates or reduced vulnerability.


The current Global Financial Crisis offers further debate about Zambia’s Economic and Financial Policies, the effects of Financial liberalization and the power of International Finance. The key features of the Global Finance architecture comprise of several features. First, the dominance of Investment Banks, mutual funds, pension funds and hedge funds; Second, securitization or transfer of capital via the sale of stocks and bonds; Thirdly the expansion of new instruments such as arbitrage (taking advantage of forex or interest rate differentials to turn a profit) and derivative trading (buying and selling all the risk without trading the asset itself). Such is the case in instruments such as futures, forward contracts, swaps and options; and hard to monitor transactions made over the counter by telephone or computer and not via exchanges and are mostly off balance sheet transactions, namely, not reflected in assets and liability statements.

The growth of this form of global finance capital has seen the dominance of finance over industry and the system of leveraged buyouts which further confirms that volatility will continue to be central to the world capitalist system.

In terms of economic Governance Policy, Zambia was forced by the Breton Woods institutions and the Paris Club to adopt structural adjustment policies (SAPS) which made Zambia more open to Capital inflows. Tight fiscal and monetary policies including lifting exchange controls and liberalizing the Capital Account were imposed on Zambia. The arguments for unfettered Capital flows or complete capital account liberalization through Portfolio Investment{PI}and FDI as championed by neo-liberals is meant to enable Zambia acquire Capital and Technology. Further, it is assumed that because the resources will be allocated by markets, there will be both enhanced efficiency and Policy discipline. The experience of Zambia is that under its floating exchange rate regime, sudden inflows of capital tends to put pressure on the Kwacha to appreciate and under mine its balance of payments position by causing imports to rise and exports to fall. The conditionalities that are attached to these Capital inflows also tend to exhibit undue influence over domestic policy making where policy space is reduced. Furthermore, the Capital outflows or flight that inscrutably result, has tended to put pressure on Zambia as the Kwacha always depreciates, the country faces debt service difficulties, stock values reduce. the Current Account deficit increase, and generally Zambia’s macro economic vulnerability and Financial instability is aggravated. In other words, such policy regime of unfettered financial liberalization has tended to increase poverty and inequality amount Zambians. As is well recognized, opening up to global port folio flows can result in stagnation of an economy.


The history of economic evolution of all developed countries shows that complete Capital Account convertibility and freedom of capital movements is that the last stage of opening up the economy. Until this stage is reached, various forms of capital control are necessary and inevitable until a certain level of development is reached. It has been extremely unclever for Zambia to completely liberalize before reaching that level necessary for this. Even today, Capital Controls (measures that manage the volume, composition, or allocation of capital flows and/or maintenance of restrictions on investor entrance or exit possibilities) are necessary. All industrialized countries utilized Capital Controls until they reached developed levels in the 1970s. Currently, China and India - the most successful emerging economies use extensive capital controls. Other Counties include Brazil in 1960’s, Chile and Colombia in 1990’s Malaysia in 1994/1998 and even South Africa.

It is acknowledged globally that Capital Controls tend to promote financial stability, promote desirable types of investment that create jobs and enhance democracy and national autonomy by reducing the power of global speculators from exercising undue influence ever domestic policy and exploitation of national resources.

Zambia’s Policy of excessive preoccupation with inflation is misplaced. Issues of growth and employment should take priority. Monetary policy must be one that responds to needs of the Middle Class and Ordinary household in the real domestic economy rather than to the foreign Investors, hedge Funds, Banks and speculators who currently dominate Zambia’s financial “bubble” economy. Fiscal policy frame work must be one based on a progressive taxation system instead of the regressive regime that currently holds sway. The continued reliance on foreign financial flows as an option for progressive domestic taxation is neither desirable nor a sustainable development strategy. Zambia needs an economic policy rooted in domestic savings and a domestic market by enhancing and expanding the purchasing power if its people and not by being dependent on external aid, grants or loans as agents of growth. Zambia needs to adopt a discriminatory approach to Foreign Financial flows. The FDI that has come most of it by way of mergers and acquisitions, has had limited effect on employment creation. It has negatively impacted on Zambia’s balance of payments and there hardly has been any technological transfer.

National capital controls for Zambia is therefore an essential element to make sure that Zambia is able to ensure that its forex outflows are not exceeded by or grossly mismatched with its forex earnings and, overall, to allow Zambia a measure of economic and political sovereignty in this era of borderless globalization. The current global consensus is that Capital controls are essential in today’s world of integrated Financial Markets. All Asian Governments have cleverly imposed Capital Controls and cut interest rates and have continued to promote fiscal expansion. Free Capital mobility as argued by the IMF and their neo liberal friends through their agenda of Capital Account liberalization, has not been associated with high rates of growth and poverty reduction. Free flow of capital endangers the autonomy of countries such as Zambia.


No comments: