Inflation/interest rates hike, headache for businesses

The market has maintained mixed views on Reserve Bank of Zimbabwe (RBZ)’s decision to hike interest rates with some observers defending the apex bank saying it should be more “aggressive” to protect the Zimbabwe dollar and curb speculative borrowing while others fear that such increases could be “very counterproductive.”

Being too aggressive with interest rate hikes could dampen economic growth, some analysts argue, suggesting the central bank should rather consider raising reserve requirement ratio (RRR) to curtail the excessive creation of monetary balances.

Last month, the RBZ raised the bank policy rate to a record 200 percent from 80 percent to deter speculative borrowing, which authorities have blamed for causing inflation. The inflation rate surged to 191,6 percent in June from 131,7 percent in May. The interest rates are, however, likely to be breached by inflation in the coming months, which may call for further adjustments to curtail speculative borrowers.

“It is a fact that the increase in interest rate will dampen growth prospects as companies and economic agents find it expensive to borrow with a view to support production,” economic professor, Gift Mugano told Business Weekly.

“Of course, some companies will still borrow because they have no choice due to cashflow constraints. These companies will pass on the cost to consumers, who under the current situation of massive wage erosion, as a result of inflation, have no capacity to absorb price increases. In my view, we should anticipate two things, that is, falling aggregate demand which will be matched with a decline in utilisation.

Mugano said it would not be an ideal situation for the central bank to continue “chase inflation by raising interest rates as it will be like a dog chasing its tail since the very same move will cause cost push inflation. In my humble opinion, the RBZ should consider raising the reserve requirement ratio.”
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This has a net effect of reducing money supply, but may cause a liquidity crunch. In view of this, the RBZ may need to establish an optimal ratio informed by the amount of money which, the central bank is targeting to restrict with view of curbing inflation.

Economist Brains Muchemwa, however, said the interest rates at 200 percent “are too low” relative to inflation and will not defend the local currency and curb speculation.

In SA and Zambia, lending rates are twice the inflation rate and that achieves the twin objectives of regulating spending as well as stabilising the exchange rate, he said.

“The RBZ needs to be aggressive and hike rates to around 500 percent or more as using historical inflation to set interest rates make the interest rate a blunt instrument that will not achieve any objective,” said Muchemwa.

“The RBZ should (then) show seriousness by hiking the reserve requirement to curtail excessive creation of domestic monetary balances in the economy after hiking interest rates.”

While acknowledging that Zimbabwe hasn’t had real interest rate for “sometime” due to inflation, the Confederation of Zimbabwe Industries (CZI), said companies borrowing for productive purposes would face higher cost of doing business.
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“The increase in cost of borrowing will be passed down to consumers through higher prices,” said CZI in its June analysis on inflation and currency developments.

“Although real interest rates are good, an increase in the bank policy rate to 200 percent will have spill-over effects as the productive sector will likely suffer; if companies feel that they will not be able to profitably borrow at these rates, production will slacken.”

Mugano also suggested that the Government should rein in the excessive money supply caused by financing infrastructure using cash. “I am of a strong conviction that the RBZ has limited instruments to curb money supply but the Ministry of Finance and Economic Development has a central role to play by moving away from a cash financing mechanism on infrastructure and likewise, in the agriculture sector we need to place more emphasis on a market let agricultural sector where the commodity exchange and value chains financing models takes prominence as opposed to subsidies,” said Mugano.

Analysts fear Zimbabwe could be headed towards hyperinflation, which will be catastrophic for the country. Since dollarisation in 2009, the highest ever month on month inflation to be recorded in Zimbabwe was in July 2020, at 35.5 percent, which also corresponds to the highest ever annual inflation rate since dollarisation of 837.5 percent. This means that month-on-month inflation is only about five percentage points away from breaching this record level, according to the CZI.

In May 2022, Zimbabwe had the highest annual inflation rate compared to other regional economies.-eBusiness Weekly