The liquidity crunch that came with the adoption of the multiple currencies in 2008 has lasted for over a year now, and there aren’t signs that the crunch will thaw any sooner. Although bank deposits have grown by over 500% since then to over $1.2 billion today, the demand for credit has continued to rise. As expected, a steep scarcity premium had been borne out of the crunch, and those controlling the levers of liquidity are benefiting from the lucrative returns on cash. The huge and unsustainable debt overhang gagging the Central government at $5.7 billion exacerbates the liquidity crunch as the flow of offshore lines of credit is repulsed on the back of high potential country risk. The aftermath of the global liquidity crunch continue to haunt capital flows to perceived high risk destinations, and amid tradition and history clear on the high risks associated with countries saddled with high debt, attracting significant lines of credit is a big hurdle that Zimbabwe faces today.
The liquidity crunch in the Zimbabwe’s money markets has seen the ‘cash’ investment asset portfolio taking a leading position in the investment models of many pension funds and Fund Managers in town, taking away the glitter from the Zimbabwe Stock Exchange. With cash portfolios yielding between 27% and 43% on annualised basis because of the scarcity, most portfolios are being re-constructed to mirror these market fundamentals. The issue of the sustainability of these returns over the long term is what might be the sticky point, but the basic fundamentals of the risk-reward trade-off will continue to see more flows into the cash portfolios as long as yields are above 20%, more so in a country that is having negative inflation in real US$ terms.
Although it’s a boon for those with cash, the liquidity crunch has wider negative effects for the economy. It’s not very uncommon to find money being lent at between 3% and 5% flat per month in Zimbabwe today, and when compounded, the effective annual cost of borrowing for the majority of companies that badly need working capital is between 43% and 80% respectively. Worse still, lending rates around 10% flat per month are existing in the market for others, and the effective annual compounded cost of credit at 214% makes distorts the market further. The few lucky established companies that are accessing credit around 20% are getting it at favorable cost. This high cost of credit is inhibiting credit creation, and with the stiff competition coming from global producers, Zimbabwean companies are now faced with serious competitiveness challenges. With the average loan tenor around 90-days, the credit cycle is so short to allow corporate to restructure their balance sheets.
Long term debt is what most companies in Zimbabwe need today. Manufacturers need to re-tool, refurbish and revamp most of the production processes in order to compete with low cost producers in the region and Asia. The construction and real estate industries need reasonably priced long term debt, (with tenor of at least one year), to begin where they left. The mining industry is choking with lack of equipment, and requires concessionary funding, more so for indigenous small scale miners who cannot interrogate the offshore markets for funding. The sad reality is that the money within the borders of Zimbabwe around $1.5 billion is too little to meet the demands, and worse still, all these sectors of the economy require long term funding which is not available.
The secondary market for marketable credit securities has long dried, and with the RBZ incapacitated to play the effective role of the lender of last resort, it would only take a foolish bank to disregard inherent potential liquidity risks and plunge into generating disproportionate long-term assets on its balance sheet on the back of volatile deposits. Banking regulations state that a bank cannot lend more than 25% of its capital to a single entity, and considering the existing capital bases of banks in the market, few banks can lend over $2 million to a single entity. The last press release from the RBZ in October of 2009 showed 15 banks having capital less than $10 million, and only three of the 26 banks having capital in excess of $20 million. The property market is very depressed in Zimbabwe, and being prudent requires one to net off some significant part of ‘investment properties’ on bank capital balances in evaluating the exact real risk that a bank can stomach on its balance sheet without running into serious liquidity challenges. This compounds the challenges some banks face today in evaluating the extent and magnitude of risk they can take on their balance sheets since part of their capital bases cannot be easily manipulated to be the ‘last line of defense against losses’ in a market that has no liquidity. These aspects continue to stifle the creation of long term loans in the market on the back of volatile deposits.
The goodwill associated with listed companies has not been so helpfully either in allowing them easy access to credit. Most of the listed companies on the ZSE are in dire need of capital, and the inability of the banks to underwrite the rights-issues means that the SMEs and other non-listed companies are crowded out of the market, and have to bear the brunt of the most expensive money being offered in the market because of their perceived risk. Let’s take an example in the market. One local bank was the underwriter in the recent $10 million Africa Sun’s right issue, and about $3 million was not subscribed to, which automatically had to be taken up by the underwriters. Taking this said bank’s capital figure of about $541 766 as of 31 October 2009, it implies a huge solvency risk on part of the bank in underwriting such a transaction. An underwriter in such a case would need strong off-takers to relieve the pressure. This reality will continue to see banks taking a very cautious approach towards underwriting right-issues for listed companies. Resultantly, the pressure will continue to pile on the little credit that is available in the market, and because they can easily offer their near-liquid shares as security, the listed companies will continue to get favorable cost of capital ahead of non-listed companies.
The challenges of credit availability continue to drag the recovery process, and the key policy issues should therefore be centering on developing the financial services sector to ease gridlocks and make credit flow freely and abundantly in the market. One important aspect that is lacking in the market is a yield curve. The central government, through the RBZ, should come into the market and define the yield curve. The last paper that had government guarantee in the market, being the GMB bill, had effective compounded yield of around 24%. Is 24% the yardstick for the floor risk-free rate in Zimbabwe or these bids were accepted because those with cash today are kings who are pulling strings? The government solvency is currently compromised by the existing debt of $5.7 billion, and it wouldn’t be too wise to plunge into fresh debt arrangements. But the financial markets need direction in pricing debt instruments, and we cannot run without a defined yield curve for long lets we prolong the current pricing allocative inefficiencies that will continue to distort the credit markets. We have adopted a multiple currency system, and there are huge variances between the yield curves in the USA and South Africa (SA) because of inflation differentials, different balance of payments benchmarks etc. It would be difficult for Zimbabwe to adopt the yield curves in the USA or SA without paying due attention to our unique dynamics on producer and consumer inflation, perceived country risk and stock of capital. Leaving the markets to roam wide and wild without risk-free benchmarks is not an efficient option.
Policy makers therefore need to guide expectations in the pricing of financial assets, which in turn may cascade to influence the real activities in the economy. Of course the concern that will come to mind quickly centers on the extent to which Zimbabwe can influence the efficiency of the transmission mechanism of monetary policy when using largely the US$ as medium of exchange, whose issuance we are not in control of. But the fact remains the markets are roaming wide and wild, and we need a strong and continuous point of reference for evaluating investment decisions. Considering the importance and centrality of credit creation towards faster recovery, we need to get things right. Therefore addressing the debt challenges, the yield curve and perceived country risk profile should become priorities in order to unlock other gridlocks relating to capital flows and pricing for 2010.
