To say Zimbabwe’s economy has experienced turbulent times would be an understatement. Zimbabweans have been through a lot on the economic front. One of the measures of this turbulence is the exchange rate for the Zimbabwean dollar, in its various forms. This is made all the more complex by the existence of two exchange rates at present. The Official foreign currency auction-rate which some have access to and the widespread parallel market exchange rate. Since June 2020 we have experienced relative stability in both exchange rates and with the first quarter of 2021 going the same let’s look at the factors that shape the 2021 outlook for the exchange rate.
2020 an unusual year
To understand the issues that affect the exchange rate outlook for 2021 we have to take a step back and look at some of the not so obvious issues that popped up in 2020 and how they affected the exchange rate. Now of course we must commend the Reserve bank of Zimbabwe for finally pulling in the reigns on money supply growth which we will discuss. There are other factors such as the effect that lockdown had on the exchange rate market. Zimbabwe has a ridiculously large informal economy which was estimated at around 60% of the economy 2 years ago but I suspect is much larger. Removal of informal traders from the streets, along with their customers, to curb the spread of coronavirus also slowed the velocity of money. In simple terms the rate at which money moves around. This alleviated a lot of demand-side pressure on the exchange rate. In addition to this the closing of land borders also greatly crippled the informal economy. It did not kill the cross border trade but certainly curtailed it. It is fair to say that informal trade and cross border trade both heaped massive pressure on the exchange rate in days gone by.
Money supply growth
Money supply growth is the one part where monetary economics oddly is very simple. It’s a matter of supply and demand, the simplest of economic concepts. More Zimbabwean dollars in the economy by whatever name they go chasing a fixed or shrinking supply of US dollars makes the US dollar more valuable and the Zimbabwean dollar less valuable. Nothing else in monetary economics is simple. The money supply is not expected to be static in an economy, we appreciate a reasonable growth rate. A growth rate that is commensurate with business activity levels and therefore fosters economic growth. A look at the graph below will give an idea of the rate of money supply growth in 2019 and 2020. A similar trend is visible in the parallel market rate chart below it.
We currently are enjoying a period of relative stability. The auction exchange is creeping as was planned from inception while the parallel market exchange rate has seen comparatively modest depreciation of the Zimbabwean dollar. We owe this stability in part to the improved behaviour of our central bank and the introduction of an auction system that is not perfect but has alleviated pressure on the parallel market. We also owe this to the reduced levels of activity thanks to the curtailing of informal trade and cross border informal trade. The authorities have taken advantage of the coronavirus and subsequent lockdowns. . So to have a 2021 outlook we must consider these issues and the impact of their reversal.
The economy is expected to grow after recording a contraction in 2020. However, as we have become accustomed to estimates from arms of government tend to be optimistic to start with and will be downgraded as time goes by. The economy is likely to grow though nowhere near the expectations of 7%. The ministry of agriculture has reported an expectation of bumper harvests in most strategic crops in the nation. Another important factor is the rollout of the coronavirus vaccine which is expected to allow the economy to open up again. Not all factors are within the control of Zimbabwe in this regard, for example, the opening up of the border with South Africa to return cross border trade to its normal levels.
Exchange rate direction
By most analyses, the exchange rate stability is expected to hold as long as the present conditions hold. While early thinking was that we could expect to be done with the coronavirus by mid-2021 this is clearly not going to be the case. As a result, we can expect present conditions to hold for longer. It is reasonable to expect the exchange to remain relatively stable. There is one important caveat to consider here and that is the most important factor is the behaviour of the central bank. Were that to change, the exchange rate situation can change very quickly.