Take auction as step to market rate: CZI

THE foreign exchange auction system should be regarded only as a transitional means to a market based exchange rate regime, the Confederation of Zimbabwe Industries (CZI) said, as part of recommended proposals from its research findings.

Zimbabwe adopted an auction based foreign exchange trading system on June 23 last year, after a failed experiment with an interbank market for foreign currency it adopted upon liberalising the currency in 2019.

Prior to adopting the auction system, the southern African nation experienced rapid rise in inflation and shortage of forex for key imports.

Post dollarisation in 2009, Zimbabwe’s inflation rate peaked at about 837 percent in July 2020, bringing back unpleasant memories of the ill-fated decade when inflation climbed to 500 billion, according to the International Monetary Fund.

But the foreign exchange auction system has curtailed both wild inflation run and high exchange rate volatility, leading to relative price stability and market predictability.

In its 2021 Monetary Policy Statement released last week, the central bank said maintaining the foreign currency auction system remains paramount in anchoring inflation and maintaining price and financial system stability.

“The bank shall continue refining the foreign exchange auction system taking into account market fundamentals as well as closely monitoring the utilisation of funds from foreign exchange auction system and the economy at large.

However, the country’s largest industrial lobby group said in the findings from its research that a market exchange rate remained the end goal and the auction system was a means towards that end product.

Titled “A synthesis of other countries’ experiences with the currency auction system”, CZI produced a paper that looks at paths travelled by and experiences in Ghana, Sierra Leorne, Zambia, Bolivia, Jamaica, Guatemala, Uganda and Nigeria.

“We remain committed to proposing measures to ensure this is achieved and sustained,” the manufacturing industry body said in twitter thread accompanying findings in its research paper.

CZI chief executive officer Sekai Kuvarika said now that the auction system was established in Zimbabwe, the directions proposed in its findings were more relevant.

In principle, CZI said, auction markets are meant to improve the allocation of foreign exchange, while providing a transparent way of determining market based exchange rates instead of acting as administrative forex allocation frameworks.

Past experiences in developing countries, CZI said, show that auction markets were not sustained over a long period of time.

“In fact, some of the countries that have introduced auctions have eventually terminated them and returned to a fixed exchange rate,” CZI said.

Ones that maintained auction regimes, combined them with the interbank systems, experts says this casts doubts over the transparency and transitional contribution auctions may have made to the efficient allocation of foreign currency.

CZI said experiences from other countries showed that attempts to fix exchange rates, amid external shocks and without supporting fiscal and monetary policies resulted in overvalued currencies.

This occurred in countries that had problems with their balance of payments (BoPs) while attempts to contain skewed BoPs through price controls, rationing and import licences often led to depressed economies, reduced fiscal revenues and a shift of external trade to the informal sectors.

Such countries also faced shortage of raw materials, which hampered production for the domestic and export markets while overvalued exchange rates discouraged export products and constrained competitiveness of local goods.

Fiscal revenues of affected countries declined after output fell and external trade declined.

In order to fix the crises caused by fixing the exchange rates, the countries liberalised their foreign exchange markets.

Findings from CZI’s research revealed a common thread among countries that resorted to the use of an auction market system.

Further, these countries experienced reduced per capita income, high parallel market exchange rate premiums, high and volatile inflation, lack of forex reserves, large fiscal deficits, overvalued exchange rates and misallocation of hard currency.

Key success factors in countries that resolved similar challenges, for instance in Ghana, came after trade liberalisation, which opened access to several categories; about 70 percent of imports that were previously excluded became eligible.

Import licences were reclassified to allow more imports to qualify for bids and importation, except beers, cigarettes, cement pipes, asbestos and fibre roofing sheets.

“Other existing restrictions on demand for foreign currency were removed, including the import licence, which was abolished in 1988,” CZI noted in its research paper.

In successful instances, CZI said, trade and foreign exchange reforms were carried out simultaneously to reinforce each other.

CZI said Zimbabwe should ensure policy consistency to sustain the auction market, enforce fiscal consolidation and monetary discipline, liberalise trade and remove too many import licences, implement a robust import substitution strategy, reform its state owned enterprises and re-engage with external lenders. — ebusinessweekly.