Regulation changes increase risk of illicit financial flows

Recent changes in regulations have seen rising United States dollar cash flows in the economy, which increases the risk of illicit financial flows (IFFs), observers say.

Last year, Zimbabwe allowed the use of the US dollar as legal tender by the general public alongside the Zimbabwe dollar, which had been re-introduced in June 2019.

On March 26, 2020, the Reserve Bank of Zimbabwe (RBZ) allowed for US dollar transacting as part of measures in response to “financial vulnerabilities caused by the Covid-19 pandemic”, and specifically to alleviate the effects of “the country’s limited access to foreign finance, which is adversely affecting the country’s balance of payments position”.

The use of the US dollar by the public in day-to-day transactions was not unfamiliar, because for a greater part of the decade Zimbabweans had become accustomed to using the greenback as local tender. Between 2009 and mid-2019, the US dollar dominated Zimbabwe’s “multi-currency system”.

The move to allow US dollars as legal tender has resulted in the emergence of a parallel economy that is almost impossible to regulate because the economy has increasingly become informal. A February 2021 World Bank report — The Long Shadow of Informality: Challenges and Policies — revealed that the informal economy accounted for over 50 percent of Zimbabwe’s gross domestic product.

The problem with allowing US dollar cash transactions in a highly informalised economy is that the monetary authorities may not have the capacity to trace the movement of money, especially as a significant number of small businesses tend to operate without any form of registration.

These underground cash flows make it difficult for authorities to identify the major actors driving illicit outflows, thereby increasing opportunities for organised crime, corruption and tax evasion.

And increases in net illicit outflows reduces money spent towards the country’s capital and social spending, making targets such as the United Nations’ Sustainable Development Goals (SDGs) more difficult to achieve.

According to a 2012 FinScope Survey, the country had 2,8 million micro, small and medium (MSME) businesses, of which 85 percent were “not registered or licensed”.

The FinScope Survey put MSME turnover in 2012 at circa US$7,4 billion, and highlighted that 43 percent of MSME owners “do not use any financial products/services”, which could indicate the extent of IFFs.

The high levels of informal value cash transactions that cannot be traced within the economy increases the risk of illicit outflows as the greenback is fully convertible and, therefore, in high demand outside Zimbabwe.

And even in cases where some of the businesses have adopted some level of fiscalisation, the authorities are still struggling to ensure that US dollar transactions are receipted as such.

This points to an existence of an “underground” US dollar cash economy, whose inflows and outflows cannot be traced.

Transparency International Zimbabwe (TIZ) estimates that Zimbabwe is losing around US$3 billion annually to IFFs.

Said TIZ programmes director Tafadzwa Chikumbu: “With huge variances between the official exchange rate US$1: $85 and the parallel market rate of US$1: $130, there is a lot of illicit financial flows happening within the official trading system for goods and services.

“There are possibilities of corruption in the foreign currency auction system which points to IFFs as well. Since dollarisation, Zimbabwe has become a haven for illicit trade in drugs and other contraband goods, as well as gold smuggling.”

Onias Mugowo, chief economist at local think-tank, Ziopra Consulting Group, says the problem extends beyond increased US dollar cash flows to issues of ineffectual policies and regulatory systems.

“Reports actually show an increase in the value of IFFs. One of the reasons for this surge is ease of access to US dollars in Zimbabwe since dollarisation, the existence of a cash economy due to low banking confidence and informal circulation of cash dollars due to a combination of economic informality and low banking confidence.

“But I would say the biggest catalyst of illicit outflows of capital in Zimbabwe is the country’s poor business environment followed by poor governance. The phenomenon is policy-related. How the Government has handled currency issues since 2008/9 has instigated economic players, both individuals and companies to move their money out the country in one form or another,” he said.

“No one wants to bank US dollars and those who can move money out have been doing so in various ways including over-invoicing imports and under-invoicing exports. Some maintain a high level of external debt with related parties while others import or export to related parties.”

The monetary authorities, however, do have some control over foreign currency outflows.

Zimbabwe’s international transactions are regulated by the Exchange Control Act (Chapter 22:05), which confers powers on the President to impose restrictions and administrative measures related to gold, currency, securities, exchange transactions, payments and debts, and the import, export, transfer and settlement of property, and for purposes connected with the matters aforementioned.

These statutory regulations are administered by the RBZ.

However, while shady deals can take place locally in instances where the RBZ has no control over US dollar cash flows, this can extend to international transactions.

These can relate, but not limited, to individuals or companies across borders rendering services to each other, but transacting outside the Zimbabwean payment system, for example, buying and selling of real estate, import and exports, and individuals not residing in Zimbabwe,
but benefiting from activities in the economy.

But authorities say it is almost impossible to effectively quantify the country’s IFFs.

“Externalisation is difficult to measure. It is done secretly, so we can’t possibly know the specific figure.

“Part of it is done through strategies such as transfer pricing, so it’s difficult to measure,” RBZ governor Dr John Mangudya told Business Weekly.

“The figures people talk about are only estimates. If the exact quantum of these figures where known, then they wouldn’t be illicit.”

This story was produced by Business Weekly. It was written as part of Wealth of Nations, a media skills development programme run by the Thomson Reuters Foundation. More information at www.wealth-of-nations.org . The content is the sole responsibility of the author and the publisher.