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Common Monetary Area: Hurdles to Adopting the Rand

As the debate on what options exist for Zimbabwe to solve its cash crunch takes centre stage, it seems business is convinced that the only alternative is to adopt the South African rand as the unit of account, or, better still, join the Common Monetary Area (CMA).

Some businesses seem to have more confidence in the rand than bond notes, whose roll-out is imminent. This preference comes against the backdrop of the increased uncompetitiveness of the local economy owing to a strengthening US dollar and a surge in externalisation.

It is believed that by being a weaker currency than the US dollar to which the bond notes are pegged, rand usage will go a long way in restoring Zimbabwe’s competitiveness.

Also, being a less attractive currency than the US dollar, which is a reserve currency, rand use will minimise externalisation. Notwithstanding the merits of using rand, this option seems untenable from both a market perspective and due to demanding preconditions required for its adoption.

There are basically two options available to Zimbabwe for adoption of the rand: making it an anchor currency — unit of account — or through joining the CMA.
Adoption of the Rand in Zimbabwe is Being Debate 

Making the rand a unit of account entails the conversion of reporting currency from the US dollar to the rand. Government’s budget will have to be denominated in the rand and salaries will be paid in rands as well, while the prices of goods and services will be quoted in rands as the main currency. All bank balances, loans and pension accounts will necessarily have to be converted to rands.

In short, all assets and liabilities in Zimbabwe have to be converted to the reporting currency. This is a costly process and someone has to bear the exchange rate costs involved.

Assuming an average currency conversion spread of 2,5 percent, it means that the country would bear a total of US$147,8 million on bank deposits of US$5,9 billion and US$93,3 million on bank loans of US$3,7 billion as at June 30, 2016.

Besides these costs, the market preference for the rand is currently low ostensibly due to its volatility. The depreciating rand is fast disappearing from the market and there even seems to be more preference for bond coins than rands.

There may be no automatic entry ticket to the CMA arrangement, which is made up of South Africa as the issuing country and Lesotho, Namibia and Swaziland as members.

There are preconditions that Zimbabwe should satisfy before being admitted into the CMA. Zimbabwe is experiencing economic challenges and there would naturally be concerns that it may pull down other members in the CMA.

The economies of the current CMA members and that of Zimbabwe are quite diverse such that economic convergence will be difficult to achieve.
A look at the European Union crisis reveals the danger of having weak economies in a monetary union.

Debt-ridden nations like Greece, Portugal, Spain and Cyprus were largely to blame for the eurozone debt crisis, which threatened the breakup of the EU. Recently, the issue of labour mobility that characterise most CMA arrangements has sparked Brexit as free movement of labour was working against Britain, which is more developed than most of the EU members.

The case of Botswana, which opted to exit the then Rand Monetary Area, following rapid growth and build-up of surpluses from diamond revenues offers a more closer example of why admittance of Zimbabwe in the CMA may not be easy.

Botswana opted out in 1975, ostensibly for fear of being weighed down by weaker nations mainly in supporting exchange rate peg. Generally, the weaker nations found it difficult to maintain the required international reserves.

Importantly, for Zimbabwe to enter into the CMA, it has to reintroduce its own currency, which will then be pegged to the rand at a rate of 1:1. This may not go well with Zimbabweans who have had bad experiences with the local currency, having lost their wealth during the hyperinflation era.

To maintain the currency peg of 1:1 between the rand and the Zimbabwe dollar, the country needs to maintain adequate reserves to support the issue of a currency. In the CMA, any currency issue should be supported by at least equivalent international reserves.

If Zimbabwe is to issue, say, 10 billion rand, it must have at least R10 billion worth of reserves. However, this is currently untenable as the country currently has depleted reserves.

Even if this key factor is not considered, there is need for the country to grow its reserves over time, which requires rebalancing the economy towards more production and exports whilst also reducing consumption and imports.

This may be difficult to achieve due to deep-seated structural challenges currently confronting Zimbabwe. Fiscal challenges could be a formidable deterrent to joining the CMA arrangement. Fiscal discipline is a precondition to sustenance of the exchange rate peg in a CMA.

The Zimbabwean economy is characterised by high levels of consumption unsupported by production, with concomitantly high fiscal deficits. In the Fiscal Policy Review Statement, the Finance Ministry indicated that Zimbabwe used close to 97 percent of its revenues to pay wages in the first six months of the year. As a result, a budget deficit of US$ 1billion is forecast.

This deficit will largely be funded through borrowing from the domestic market via issuance of Treasury Bills. This will militate against efforts to grow the country’s reserves.

Zimbabwe’s fiscal challenges may compel other CMA members to impose some fiscal policy measures on the country, and this might undermine the country’s sovereignty. The country’s high propensity to borrow has resulted in unsustainable debt levels.

Public debt as at June 30, 2016 stood at US$9,7 billion, of which US$7,5 billion was foreign debt and US$2,2 billion was domestic debt. The bulk of Zimbabwe’s foreign debt (80 percent) was in arrears.

The need to service the country’s debt in an environment where there is limited fiscal space will make it difficult to exercise fiscal restraint, which is required to sustain the exchange rate peg in a CMA arrangement.

The country’s debt levels are poised to increase due to limited fiscal space and the need to fund important projects such as command agriculture and the 2018 general elections.

The most credible hope for adopting the rand was through the Sadc integration strategy, which envisaged a Monetary Union by 2016 and a single currency by 2018. It now seems that the industrialisation strategy is the new regional thrust.

However, it should be understood that the challenges Zimbabwe face today are beyond a currency option. Whether the country adopts the rand or bond notes is not the most important thing to worry our policy makers today.

They should be preoccupied with crafting solutions to solving the deep-seated structural challenges that face the Zimbabwean economy. There is need to start rebuilding the productive and export sectors of the economy. That should be rebalanced by reducing consumption and imports.

Needless to say that if this rebalance is achieved, the issue of currency will naturally come in place. SI 64 of 2016 is not good enough if it is not supported by other outward looking approaches. - The Sunday Mail 

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