Last week a document surfaced that had a fairly detailed de-dollarisation roadmap. The document laid out a five-year plan to move to a fully de-dollarised Zimbabwe. The document was later refuted by the Reserve Bank of Zimbabwe pointing out that it indeed was something that was authored by government agencies but was not official and they even went to the extent of naming the person who was responsible for the document getting out. In the document, there was mention of a dual managed exchange rate system for the currency. Seeing as it is something they have thought about it makes sense for us to understand this concept.
It is a system in which two separate exchange rates are used for differing types of transactions. We are talking on a macroeconomic level here so imagine Zimbabwe adopted two separate exchange rates one for people who are investing in productive businesses and a different rate for imports. I use this example because one of our biggest problems, according to the government, has been the degree to which imports gobble up foreign currency. Having two separate foreign currency markets where each market would have its rate. So ideally exporters and investors would meet on one market while those wish to buy currency to import and for personal expenditure would meet on another market.
In more common practice the system has been used with one rate fixed and the other floating. This is has been used where economies want to move from a fixed rate to a floating rate system. The dual-rate concept is used to limit the volatility in the short term that would arise from a switch in systems. A lot depends on how the dual system is applied. In the past countries like South Africa and Argentina have applied it with varying success. South Africa chose to have two floating rates, one for capital account activities (investment inflows and outflows) and the other for commercial activities (imports and export flows) and the system worked well for them in the mid-80s. Argentina, on the other hand, chose to differentiate by making the rate for exports lower and therefore cheaper this, unfortunately, did not work well for them.
It’s not too different from the situation we had a little while ago where the Reserve Bank of Zimbabwe provided US dollars to the fuel sector at 1:1 with the Zim dollar (then Bond) even though markets had long moved away from the 1:1 rate. This shows us one of the key disadvantages of a dual managed exchange rate system which I will talk about later. I said not too different because ultimately there was a lack of transparency in the system that rendered it lopsided and it could not hold for the long term. While the government provided cheap foreign currency for a critical import it ultimately cost foreign currency which was needed in sectors such as health.
In a dual exchange rate system, currencies can be exchanged in the market at both fixed and floating exchange rates. A fixed-rate would be reserved for certain transactions such as imports, exports and current account transactions. Capital account transactions, on the other hand, maybe is determined by a market-driven exchange rate.
Prevent capital movements from affecting the current account
Depending on how the dual system is set up it can prevent capital movements from affecting the exchange rate. In our example, we have seen how the now banned fungibility of shares in Old Mutual was affecting the exchange rate. Its believed that a lot of money that was moved through old mutual in and out of Zimbabwe was of capital nature. Removing these flows from the market shows a clearer demand and supply related currency valuation.
Stabilize currency values when countries face financial crises
In the short term, it can stabilise currency values. The system is underpinned on enough foreign currency flows and reserves being available to provide at the given rates. In the short term, the system can work very well to stabilise things provided there is enough currency in the system.
The dual exchange rate system can be used as a tool to direct the behaviour of participants in the foreign currency market. As I pointed out earlier the government has time and again pointed the finger at Zimbabweans for wasting foreign currency on importing products that they feel are not a priority. Having an eased rate for productive industries with a free rate for those who wish to import items which are deemed discretionary. It may, where possible lead to import substitution.
Government revenue if one market controlled
In the example of a dual system where one is fixed and the other floats there is an opportunity for the government to earn foreign currency and profit through disposing of that currency on the floating rate market. This does not guarantee the profit will be used well but it is possible.
Misallocation of resources
Who is to say that any industry isn’t productive or doesn’t earn foreign currency. As was brilliantly pointed out on this platform before some businesses may not earn foreign currency directly but they provide services that are critical to those who earn foreign currency and may need foreign currency for their infrastructure. If the policy were to be implemented along such lines it may disadvantage everyone.
Continual misallocation of resources will eventually cause economic distortion
Zimbabwe is already a case study in the misallocation of resources and the effects are plain to see in many facets of our country. The long term effects of such misallocation are what lead the country requiring Sakunda energy ( a long time.beneficiary of subsidized foreign currency allocation by the RBZ) to bail out hospitals in the wake of the COVID-19 pandemic laying bare how poor our health system is in the country.
Strengthen the black market
The selective application of a favourable exchange rate may lead to a black market. In a nation like Zimbabwe with a very strong black-market this would only strengthen the black market even more. A little research into the parallel market in Zimbabwe and response to past interventions will make this very clear.
The document which mentioned the dual managed exchange rate for Zimbabwe was not clear on how it would operate or the basis on which the two rates would be set. So we cannot be entirely clear about what the adoption of such a system would mean for the economy specifically. We can only speak in general terms. Understanding it may be important in the future as it may just be what we end up with.