The mid-term fiscal review is due. So much progress has been made during the past six month towards stabilizing the economy, but more needs to be done not only to keep the momentum, but to quarantine some risks that remain pronounced. Improvements have been registered on all economic fronts and with/without effort; the government has managed to operate within its budget without choice and recourse to meaningful alternative funding arrangements because of the dollarisation.
Thanks to the discipline associated with the inability to finance budget deficits via printing, the tight budget has reduced the incidences of government influences, usually disruptive, on the markets operations and resultantly, pricing has become stable and predictable, whilst the supply of goods has improved markedly, preparing the desired groundwork for more investment and growth.
There are however some very important aspects that have remained a drag in the growth process from the financial markets perspective, and these aspects remain within the realm of fiscal policy influence. Capitalisation of the RBZ is very critical in the wider scheme of stabilizing the economy and the mid-term fiscal review needs to address that, or at least spell the road-map. The capital pricing mechanism in the financial markets has been very inefficient for the past 15 months or so, and the absence of lender of last resort functionality at the RBZ, among other things, has played a significant role in perpetuating that problem. As long as the central bank is not providing liquidity windows to banks in short positions, it would take excessive risk-taking behavior by banks to lend generously, one of the reason why the loan to deposit ratios have remained low as banks conserve more cash on their own balance sheets as a contingent measure. Not only has this constricted the flow of credit, but it has equally resulted in the high cost of capital obtaining in the market where interest rates range anything between 15% p.a to over 100% p.a.
Therefore besides the issues of the quantum of deposits in the economy and international perception, there is so much that the policy makers can do to influence the cost of credit via moral suasion and putting appropriate infrastructure to manage systemic risks within the banking sector. The interbank market, which becomes the next liquid source of cash for banks in short positions, becomes a chess-board for those with excess cash, a very good trigger for systemic risks should one big bank suffocate under the high costs of overnight funding.
Capitalizing the RBZ therefore should become a policy priority not only to manage cost of credit, but to equally reduce the incidence of systemic risk within the broader banking sector.
Capitalizing the RBZ on its own without other supporting market instruments will not bring the much desired efficiency. Notwithstanding the huge debt overhang, the government has to come into the market and set the risk-free rate via issuance of debt (treasury bills). Having markets where the risk -free rate is left to speculation affects the pricing and indeed availability of capital from both the domestic and international financial markets. Its more than 15 months since dollarisation and in all fairness, the market has to have a risk-free pricing anchor to manage expectations, more so now that inflation has started rising and without guidance, the markets become wild and inefficient in allocating resources. All countries have debt challenges, some worse than Zimbabwe, but what would be important from the policy perspective is to have an efficient pricing of capital for credit to flow more freely.
Closely related to this comes the unavailability of long term-capital resulting out of absence of very poor signaling. Most corporate balance sheets are weak due to capital erosion over the years that emanated from high inflation and lack of foreign currency. Revitalizing the physical capital structures of these balance sheets require reasonably priced long-term. Unfortunately, banks are not willing to price long. Attempting to price long term-capital in a market whose risk-profile is open ended is taking the speculative game too far and considering the difficult capital positions banks are sitting on, it’s a risk not worth taking. The biggest blunder that any bank can do is to price long term now, only for the government to come later on and price its long-term bonds at levels higher than what the bank would have plunged at. Logically anyway, the short-term interest rates obtaining now are attractive for the banks and therefore pricing long into the unknown, usually at discounted rates, would need the guiding hand of Paul, the Psychic Octopus that has been correctly predicting the world cup outcomes.
Therefore the government, via the fiscal policy, has a very important role in shaping and managing pricing expectations. The argument that the existing debt overhang is unsustainable and therefore the government cannot procure new debt is therefore misplaced when one considers the need to have efficient allocation of resources in the market. Inefficient pricing in the financial markets affects the whole economic system, and therefore paying little attention towards managing the pricing expectations is missing some of the key elements in maintaining a steady growth path.
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