In the last communication from the Reserve Bank of Zimbabwe that accompanied last week’s auction results, there was a term which was included in the document encouraging earners and holders of foreign currency to place their foreign currency up for auction. It’s an interesting move by the Reserve Bank. We are only two auctions in but we have already seen a growth in the unmatched bids from 9% in the first week to 14% in the second. Will this new plan work?
Auction Reserve Price
An auction Reserve price is a simple concept. A seller of an item puts it up for auction and sets a minimum price for the item. If the winning bid or bids fall below the reserve price the auction is not binding. So in our auction case, those who earn and hold foreign currency are encouraged to put their foreign currency up for auction with their Reserve price stated through their authorised dealer. The goal is to increase the supply of foreign currency and we will have to wait for further information as to the minimum if there is one for this facility.
A few sticking points
The decent move by the authorities but they face some problems in getting this idea to succeed. They seem destined to repeat the mistakes of the interbank market which allowed the public to sell foreign currency but not to buy it. Assuming this has no or a low minimum for sellers yet there is that US$50 000 barrier for buyers the makings of an imperfect market are in place. I’d also be interested to know how open people are to disclosing high Reserve rates for the currency they have for sale considering who runs the system. Lest we forget the authorities would love to keep the auction-rate as low as possible to claim some form of victory over the parallel market.
Third time’s a charm?
With the third foreign currency auction of the year set for tomorrow the 7th of July the results are being impatiently awaited. Thus far the auction system has looked a little unstable. Early days of course. However, it looks as though the exchange rate is headed upward. 13% increase in the last week. If we applied 13% linear growth per week for 52 weeks we would get 676% growth. I bring this up because inflation when last measured was 785.55% and rising. With many economic participants excluded from the auction system, this trend is likely to continue as they must seek foreign currency from alternatives and pricing remains outside of the auction system rate.
Government US dollar-linked bonds
The word bond has become a dirty word in Zimbabwean money circles and Zimbabwe in general. So it’s quite reasonable to see the public backlash over the governments plan to issue US dollar-linked bonds. After all, the bond note was issued with US dollar parity and we all know the rest. However bonds are simply medium to long term debt instruments, yes the government plans to borrow. The idea of having a US dollar-linked bond is to preserve the value of bondholders (buyers) who are paid a percentage interest on the value of the bond and the full value of the bond upon maturity. So the value of the bond would be adjusted with foreign currency exchange rate movements in the auction. This would adjust the interest payments and the principal repayment to value obtaining at the time of payment. Of course, the government of Zimbabwe may have a different implementation of the idea so we await clear rules to see if this will be the case.
The money supply problem has weighed heavy on the minds of the Reserve Bank as a recent jump of ZWL$600 million in Reserve Money (issued) was suddenly reversed without much explanation. In theory, the bond would kill two birds with one stone. Reducing money in the market available for buying foreign currency and inflating the ZSE prices while providing a cash strapped government with much-needed funds. However, the cost may prove too great as firstly there is interest to consider and secondly the (expected) increase in payments as the exchange rate rises would mean higher Zimbabwean dollar payments for the government. Fears being they would turn to the printing press again to satisfy this deficit hence feeding the very problem they were trying to solve.
As we await more information on these two issues and the next auction we will certainly do more deep dives into some of these issues to reveal as much about them as is possible. Please feel free to ask questions or request explanations on any concepts and their meanings.