Zimbabwe Diamonds - Noble objective, sad betrayal

The ongoing Zimbabwe diamond mining saga that has seen the arrests of some Core Mining and ZMDC officials has attracted a lot of attention and opened a new chapter on the role of the state in diamond mining activities. Equally, the new licenses that have been reported awarded to Anjil, and Pure Diamonds and Sino-Zimbabwe continue to point to one sad story – the story of Zimbabwe losing confidence in its own people and indeed the inclusive government of Zimbabwe, against the spirit of true and unbridled economic empowerment, has been caught flouting its own commandments. If the inclusive government of Zimbabwe is already party to two licenses currently extracting diamond in Chiyadzwa, why would it be too slow and dull to learn and impart the knowledge to local partners in new licenses?

Worth noting in the new licenses is the fact that the element of foreign companies, or the need thereof to partner with such, has continued to take centre stage in the awarding of licenses in the diamond extraction in and around the Marange area. Whilst the inclusion of foreign companies in the diamond mining industry or any other industry in Zimbabwe is not a bad idea, it is so much bad and distasteful to imply and indeed act in confirming that Zimbabweans on their own cannot mine diamonds in the Marange area. Who does not know that the Marange diamonds are largely alluvial? Isn’t this the same place that lit Mutare with loads of US$ when illegal ‘panners’, armed with sticks, shovels and carry bags, extracted diamonds worth millions of dollars? And indeed they got the gems, and the story of the alluvial Chiyadzwa diamonds and the miracles thereof has been told, recited and indeed documented.

Why would the government therefore, against its own spirit of empowering its people, award and continue to award licenses to ‘foreigners’ to extract alluvial gems that sticks, shovels and picks could unearth? Alluvial diamonds, for what they are, remain and will always be alluvial diamonds, not requiring state of the art machinery to extract. Alluvial diamonds generally stem from diamond-rich kimberlite rocks that would have been eroded over time by rivers, with the diamonds being deposited downstream. Artisanal mining techniques have mined the Chiyadzwa diamonds, of course not to the broader benefit of the Zimbabwean economy, and indeed alluvial diamonds, in the general interests of Zimbabweans, should be left for Zimbabwean to extract. There is general talk, erroneous equally, that Zimbabweans alone cannot extract alluvial diamonds and would indeed need foreign partners with deep pockets to buy bull-dozers, excavators, front-end loaders and security fence to be able to extract diamond. This notion is regrettably ill-informed, unfair and indeed a prejudicing one. Since when have bull-dozers, excavators and so on been expensive when compared to the return on investment from alluvial diamonds?

For the record, the Zimbabwe's financial sector has capacity to syndicate more than sufficient resources to which-ever Zimbabwean would be looking for the capital to extract diamonds in the Chiyadzwa. Recently three banks, FBC, ZB Bank and Agribank have been in the market to raise a combined $37 million to finance the next agricultural season. Will it ever rain this coming season or we will have the worst drought? Notwithstanding that there are serious risks in funding agriculture, more so in an environment that is illiquid and dominated by big foreign banks that impose regrettable country risk limits that have been stifling the growth of credit in the economy, these three local banks have put up a commendable act. Whether they raise all the money or part of it is beside the point. What therefore makes the government believe that there is no local funding for alluvial diamond extraction when, in fact, poor ordinary Zimbabweans could, after years of hyper-inflation, amass the capital to extract the gems via sticks and shovels? What foreign expertise would be needed besides compliance issues with the Kimberly Process? Does Zimbabwe not have deposits sitting on bank balance sheets at over $2 billion today, with $1.3 billion of these in loans and advances? Why therefore would banks not lend to Zimbabwean companies in alluvial diamond extraction that does not require huge initial capital outlay?

The beneficiation of the diamonds is one area where Zimbabwe does not have expertise, and few would question the wisdom of the Zimbabwean government in awarding licenses to foreigners partnering local companies with the technical know-how and markets.

The time has therefore come when Zimbabweans need to be honest about themselves, their capabilities and actions that will take Zimbabwe forward in a non-prejudicial manner. Sarkozy, the French President, addressing the European Parliament in 2008 said; “I don’t want EU citizens to wake up a few months from now and discover that EU companies belong to Non-EU capital which has bought at the lowest point of the stock exchange”. Isn’t this economic patriotism where the EU protects that which is theirs, barring Middle-East and Chinese investors to grab EU assets at their lowest prices? Is it not Elysee Palace, the official residence of the French President, that is dreaded by big companies in France whenever they engage in big deals with non-French companies? In February of 2009, Eutelsat board members were summoned to Elysee to answer why they had chosen a Chinese ‘Long March’ rocket to launch a satellite instead of using a French firm, Arianespace. Why would therefore Zimbabwe, for its prized diamonds existing on the surface and not needing sophisticated underground equipment, enlist foreign capital that will see money leaving this country to sit in foreign banks and finance foreign interests?

Isn’t Australia proposing an excess profit tax of 30% on iron ore and coal miners? Surprisingly, after futile protests, BHP Billiton Ltd, Rio Tinto Ltd and Xstrata plc have been reported to have signed agreements in support of the new tax rate. Is this not Australia benefiting from its resources in a win-win situation? Why then would Zimbabwe, for what it can do successfully with its local capital and expertise, cede rights to foreigners in alluvial diamond panning? In the UK, Vince Cable’s ranting on excessive bank profits and threats to those banks not lending to British companies reveal the growing insecurity of governments worldwide concerning the ability to manage banks and financial resources in order to continuously influence the growth process. Equally, the Chinese state-owned banking sector protection experience that has been influential in driving Chinese growth to this day where China is a global superpower, notwithstanding everyday criticism from such institutions as the IMF, is an important learning point in global economics. On the same issue, the 01 September statement by the Fed Chairman, Bernanke “that a combination of tougher oversight and tighter capital requirements will take away the attractiveness” of banks being too big to fail bear testimony to the fact that any serious country today needs to have some significant influence in the way resources are allocated in the economy, be it in banking, mining or otherwise.

The Minister of Youth and Economic Empowerment, Mr Kasukuwere, and the President of the Affirmative Action Group, Super Mandiwanzira, have grabbed headlines championing the cause of able Zimbabweans in charge of their destiny, but surely their motives and what they stand for become very weak when licenses to alluvial diamonds extraction need foreign partners. The excuse that the foreign capital on alluvial diamond extraction does not have controlling stake is not a good one, and indeed Zimbabwe needs to re-look at its economic vision. Emotions have always boiled about foreigners owning shops and other small retail businesses suffocating local Zimbabweans. In the same breath, why would foreigners be allowed to take part in alluvial panning? If we can’t bar foreigners in alluvial panning, lets equally not bar foreigners in retail businesses. The law has to be fair to all foreigners, and more importantly, make sense. The Minister of Finance, Tendai Biti, will soon be presenting a fragile budget statement, with or without a deficit. Government revenue remains weak, and surely short of coming up with pragmatic changes to the taxation levels on key minerals such as diamonds and platinum, the fortunes of this economy will remain weak for long, and Zimbabweans will have themselves to blame. This new sad chapter therefore in the extraction of Chiyadzwa diamond is regrettable, and indeed the inclusive government needs to quickly re-look at its economic strategy.

Brains Muchemwa is CEO of Oxlink Capital (pvt) Ltd. Feedback: brainsmu@gmail.com. Disclaimer: The comments, sentiments and statements made in this article are that of the writer and do not, in any way, reflect the views of Oxlink Capital (pvt) Ltd.

Property Market in Zimbabwe: Struggling but with loads of potential

Its November already and a lot of progress has been made in the economy this year. The Zimbabwean policy makers have been emitting mixed signals for a long time this year regarding the economic growth prospects. The GDP growth forecasts for 2010, now pinned around 8%, have been revised up and down for the millionth time, unnecessarily at times, but the most important fact is that the economy is growing. Considering that the performance of banks generally mirror the strength of an economy, the mid-year results by the banks show that the economy is still in some trouble, and indeed more hard work is still needed to put it back on a comfortable growth path. And with that, the prospects on the property market, which hinge more on economy-wide liquidity, vibrant banks and the pace of economic growth, remain uninspiring in the short-to-medium term. Interestingly, the depressed revenue from the last Diamond sales have dented the high hopes of fast recovery that had been erroneously pinned on the diamond industry following erroneous forecasts on the value of the piles of 4000 carats that had accumulated awaiting the Kimberly Process certification before being off-loaded.

Mortgage lending has resumed on the domestic banks’ balance sheet, albeit on a very small scale and short time-frames. This contrast sharply in such mature markets like South Africa where mortgages take up significant proportions of bank balance sheets, affording reasonable activity and indeed liquidity on the property market sufficient enough to influence more predictable and sustainable long-term yields. As of June 2010, mortgages sitting on SA banks stood at $144 billion, about 45% of banks’ total loan book and this contrast sharply with our local scenario where mortgages are estimated to be taking less than 2% of the total banking loan book which currently stands around $1.4 billion. High disposable incomes, affordable debt options and healthy banks are the very important foundations that will propel the Zimbabwean property market to attractive heights. The low average wages that are below $300 per month, and indeed the absence of a significant middle class have created a huge gap in the property market in Zimbabwe, resulting in very small numbers being able to access reasonable mortgages to participate in the property market, and that has depressed activity and indeed the yields.

The dollarisation has arrested the incidences of high inflation, and with our inflation likely to hover below 5% per annum over the long term, the prospects of significant wage increases are remote, more so when the general economic growth prospects are not so bullish. The economic force that therefore pushes the majority of our low income people into the middle class is weak, implying that more innovative solutions by banks and developers will be needed to create solutions for the many homeless Zimbabweans with strong aspirations to becoming property owners.

At Zimbabwe’s average incomes below $300 a month, owning a $50,000 middle density house in Msasa Park, Tynwald or Westgate becomes a pipe dream if 10 year mortgages, at around 15% per annum, require that one pays around $843 a month. And for a bank to approve such a mortgage, one would need to be earning a net salary of around $2400 per month. Back then in 1990, this was a feasible feat as the national wage averaged $1,546 per month, and indeed this economy witnessed huge developments in the real estate that time as household incomes were strong and stable. However the current wage rates are so depressed to afford the general homeless people to set foot in the property market, and with government being the largest employer and suffering from constrained revenue, it will take a lot in direct policy interventions to re-ignite the property market.

How many Zimbabweans earn $2400 as net salaries today to drive sufficient demand for the property market? What then becomes the fate of low-income earners who earn below $1000 in net salaries per month? And in any case where would one find 10-year mortgages in a market that is illiquid and exhibiting high returns on the short term for the banking sector? These realities continue to stalk the property market, and without doubt, the persistence of the illiquid market and poor incomes will prolong the return of the property market to vibrancy levels.

On the other hand, the current liquidity crunch besetting the local banking institutions mean equally that very few banks have sufficient liquidity on their balance sheet to plunge into the long term that normally suit mortgage products. Currently the banks, for fear of liquidity challenges, have been cautious on lending, resulting in relatively low loan-to-deposit ratios of around 60%. The mortgage market therefore, considering its long-term nature, becomes a distant choice for the banks in such an environment, creating more dislocations in the vibrancy of the property market. With the government being the largest employer and unfortunately suffering from serious budgetary constraints and with civil servants’ salaries pegged below $300 per month, very little would be expected therefore from the employers in coming to assist the property market development.

The government has recently announced a 10-year $5 million mortgage scheme for the civil servants at 5% per annum. Considering the current civil service wages around $250 per month, the maximum that an applicant would probably get is around $9600 repayable over the 10-years if one goes by the conventional mortgage guidelines. This translates to 480 people or 0.2% of the total civil service workforce. Though a pittance, the most important thing is that the government, on limited revenue, has began on an important step, and if well embraced by the private sector, the property market is set to start coming up from the bottom-up approach. This speaks of the volumes of challenges that the government is facing in revitalizing the property market, and indeed the sad story is that more resources need to be availed towards the development of low-cost housing models in the economy to provide practical solutions to the one of the most basic human need- thus decent shelter.

Patriotism versus safety - the Banks' challenges

Attention has never been so much on banks as it is now after the worst of the credit crunch. In the UK, MP Vince Cable, the Business Secretary, has recently been showing off threats to punish banks that are not lending, among the threats being a new profit tax on institutions failing to offer credit. In America, the Senate recently approved what is regarded is the ‘biggest overhaul’ of their financial regulations that would, among other things, give the government power to break up a bank that could be viewed as too big and whose failure would threaten the economy. In Zimbabwe, a government Minister was quoted recently saying that banks, foreign especially, that are not lending aggressively should leave the scene and open space for those that would be interested in lending. Equally, the monetary policy statement of Thursday last week bemoaned the high interest rate differential between loans and deposits, which, according to the RBZ, ‘undermines the whole essence of financial intermediation’.

Interestingly, the bankers had earlier hit back on policy makers from their annual conference in Nyanga, ironically stating that their lending is in overdrive and should instead slow down lest they plunge into serious bad debts. This is turning out to be a merry-go-round argument between the deaf and dump, but as always, the policy makers will have their way at the end of the day. Of late the banks in the developed world have come under pressure for their obscene bonus schemes and casino games with derivative instruments that created havoc in the global economy. And indeed the $550 million fine, paltry though, imposed on Wall Street Bank, Goldman Sachs by the US Securities and Exchange Commission on 15 July 2010 for civil fraud in the sub-prime mortgage derivatives did put an icing on how dangerous the casino games can get on a grand scale. Yes, the banks deserve to be disciplined and responsible.

The pressure on banks in Zimbabwe is likely to intensify at a time cash flow management has become the biggest headache being faced by corporates in Zimbabwe, and the continued unavailability of easy credit from the banks will keep tempers near boiling point. The basic argument on why banks should lend is logical. Banks mop most of the liquidity in the economy by accepting deposits and they have to play their part by redistributing these excess savings to those in need of credit to keep the economy running. Therefore when banks decide not to lend, the economy slowly grinds to a halt, and without any doubt, there is a reasonable level of lending expected of the banks for all the deposits they take from the public.

For Zimbabwe banks therefore to say lending is in overdrive when the loan-to-deposit ratio is only 61% can only be viewed as arrogance by the policy makers, and in future such statements can only be avoided to ensure that policy makers are not forced to act, for not acting would be viewed as blessing the same acts being viewed, incorrectly or otherwise, as unpatriotic and insensitive. Without doubt, as the RBZ has highlighted, the policy makers will descend on the charges that banks levy on transactions which are viewed to be ‘punitive’, and faced with a reduction in income from other income, the banks will likely consider lending a better alternative to generate revenue, and until then, the banks will realize that a 61% loan-to-deposit ratio is not ‘overdrive’ after all.

Zimbabwe is in a very delicate transitional phase, and without doubt economic patriotism has to be visible in most decisions that are being taken in all sectors, and the financial services stands right in the middle of the whole process. French President, Nicholas Sarkozy, when addressing the Euro Parliament in 2008, said “I don’t want EU citizens to wake up a few months from now and discover that EU companies belong to non-EU capital which has bought at the lowest point of the stock exchange”. This was at the height of the global financial crisis, and indeed company values were plummeting, and to safeguard their own, the EU was in a drive to ensure that EU companies do not fall into the hands of sovereign wealth funds of the Middle East and China and any other non-EU companies that had cash.

The IMF, which has long stood against wholesale printing of money for quasi-government interventions, became an unusual cheerleader as governments in the EU and US went into aggressive quantitative easing, and in the process of saving banks and the financial system, they threw a lifeline to their own companies. The US pumped over $700 billion, whilst the UK splashed over 850 billion pounds into the system. With the Zimbabwean government broke, devoid of lines of credit and sitting on a mountain of $7 billion in choking debt, the flexibility to engage into quantitative easing antics in helping the private sector doesn’t exist. The whole burden of Zimbabwe’s economic recovery therefore lies on the shoulders of the banking sector, and without much doubt, the banking sector would be expected to take bigger steps in playing its part.

And upon evaluating the acute credit crunch in Zimbabwe at the moment and the need to safeguard our own companies and prevent unnecessary take-overs by foreign capital or the courting of the strategic partners from a point of weakness, the banking sector has a very crucial role to play in ensuring that it plays its part in the recovery process, and indeed the biggest challenge any economy in the world can face is when the biggest banks are foreign banks. Pushing through reforms becomes a difficult task, and indeed some resistance by the foreign banks will not only be based on rationale, but rather the usual ‘head-office’ operating guidelines that will set country exposure limits, and for being foreign, these limits will not prioritize economic patriotism but rather safeguard their own solvency and reputation. And it doesn’t come with surprise that media comments about the Zimbabwean banking sector being in lending overdrive have been attributed to Barclays banks, which, ironically, made about $7 in non-interest income for every $1 it made in interest income for the 2009 full year, a clear sign that it surviving more from other charges and commission than from the normal lending business.

However, careful examination of the Zimbabwean banking model will require that more be done not only from the banks, but equally from the policy makers in setting a conducive operating environment. Acting blindly to satisfy the expectations of the economy can indeed set a dangerous path for the banking sector, more so when no one will be able to provide a lifeline in rescuing them when things go bad. For the love of being labeled patriotic and reasonable, banks can lend generously today but this can come back to haunt them in terms of bad debts. And in retrospect, the constituents of parties pushing banks to lend vigorously today will team up with shareholders and castigate bank management for poor insight and inadequate risk management policies, and sadly, more capital would need to be injected into the banks to cover for credit risk. In giving up dividend to cover for bad debts, and in worse instances of having to inject more cash to meet the regulatory requirements, shareholders will likely pass the stick to bank management, and the recent sacking of BP CEO over the handling of the US oil spill is testimony to how shareholders value their money ahead of any other sacrifice, good or bad.

Although shareholders in Zimbabwe have not been actively involved in general shake-ups of senior management over bungled-up operations largely due to the general blame on the economy and government over the years of high inflation etc, things ought to change, and surely management would need to take more responsibility for their actions going forward. When banks lose money in bad debts, the blame will never be on the bad borrowers, but will stick on management for poor insight and recklessness. Today the whole world blame the banks for poor judgment in propping the global sub-prime mortgage crisis, and many CEOs were sacked from some of the big global banks for being naïve. The same fate will befall Zimbabwean bankers tomorrow should debts turn very bad and write-down skyrocket.

If one evaluates the poor cash flows and serious competitiveness challenges facing Zimbabwean companies today, it is not difficult to see why bad debts are looming, and indeed there are many evident reasons already today that will be cited tomorrow to incriminate bankers for making poor lending decisions. It’s a catch 22 situation, and for the foreign banks, bad decisions they make today may require parent companies to bail them out as the view that they are already rich and healthy might preclude them from any future national bailout fund, if at all some miracle will happen in coming up with such a fund considering the fragility of government finances. And the RBZ has capped it all that it doesn’t have an appetite for more curatorships!

Valuable lesions can be lent from the recent global financial crisis, and that motivates the need for a balanced and very careful pressure in trying to influence bank activities. A prolonged era of cheap credit made indulgence in debt very fashionable. In some countries public and private sector debt-to-GDP levels stood above 300% just before the crisis in 2008, and at that same time, UK household debt as a percentage of disposable income was 160%. When the liquidity tightened, the pyramids collapsed and the fashionable debt came to haunt the very borrowers that had found peace in indulgence, and indeed the asset prices collapsed. The banks were worst affected with massive write-downs, and indeed many collapsed, including the famous Lehman Brothers. As if the losses on bank balance sheets were not enough, the blame quickly shifted to the banks, and indeed rightfully so. Today the global race to have more strict banking regulations is meant to address aggressive risk taking, and part of that is lending ‘recklessly’.

The road ahead is therefore not so easy for the Zimbabwean banks in general since they are now taking the primary risk of Zimbabwe’s economic recovery on their balance sheets. Every company reviving operations after years of stagnation and capital erosion is approaching the banking sector for lifeline, and the banks have to contend with many such experiments, most of whose operating models of yester-year are no longer viable. Those loans will most likely go bad, and if assets of such companies would have been used as collateral, realizing cash out of them would be the biggest challenge when everyone is having liquidity challenge. However the bankable credit needs of this economy are huge, and for the banking sector to justify loan-to-deposit ratio of 61% would be unreasonable, and indeed more reasonable lending should be happening on balance sheets.

The RBZ had not been capacitated financially to perform its market functions until recently and true to the point, the lender of last resort functionality was dead meaning banks’ liquidity was at the mercy of clients who would have borrowed. Only reckless banks would have gambled too much with depositor’s funds by lending more when they wouldn’t be sure of an exit avenue in times of liquidity crunch. On the other hand, the Government is not setting the risk free rate hence the risk is generally perceived to be higher than what it is, and in all logical instances, the banks have the right to keep significant amounts of cash on their balance sheets. If the government is not sure and confident about the future, the probably reason it wouldn’t define the yield curve, who are the banks to disregard such signs and plunge headlong in extending long-term credit? Such banks would probably not be able to live long to see the economy recover and be honored for their efforts in the turnaround process. Now that the RBZ has been capacitated with the seed fund to resume the lender of last resort functionality, more loans should be coming out of bank balance sheets as liquidity risk will be moderated.

Given the vital credit needs for the economy on one hand and the need to balance the credit risks for their continued healthy survival on the other side, banks stand in the middle of the whole turn-around process in Zimbabwe, and indeed their ability to balance the twin objectives will not only reduce undue pressure from policy makers and politicians, but will set a profitable path ahead of them as the economic recovery will kick in faster. Banks should not ordinarily take the wait-and-see approach as it constrains credit flow and hasten recessions, but Zimbabwean policy makers have an equally important role to play in ensuring that the market place has sufficient instruments to safeguard the banks. And until then can we raise expectations on the banks activities and demand better performance. With healthier banks, everyone is happy.

Stability and growth without jobs

The mid-term fiscal policy review read in the week brought about a number of changes, but one fact remains the same, and that relates to the sick economy. Zimbabwe remains the sick man of southern Africa, and although modest growth of 5.4% is expected in 2010, the key economic fundamentals remain fragile, and indeed, as the Minister said, of course without practicing it, business cannot be run on the same old mentality. There is no expectation that significant new jobs will be created, and considering the dismal performance of the vote of credit, the little hope of meaningful employment creation may have been shattered. The budget deficit of 22% at $500million (9% of GDP) points to many programs that would need to be suspended, an unfortunate sign that many creditors will likely struggle to get paid for goods and services rendered to the central government in this current year.

Equally, the wage levels, in particular government wages, will remain anchored below $300 per month as the government cannot create the fiscal space to improve remuneration, and indeed, for fear of being unpopular, the Minister adopted the business as usual approach by not proposing civil service reform targets in line with practical government revenues. At a time wages take a disturbingly disproportionate share of government revenue, and with the obvious expectation that as the government revenue increases, the wage levels will follow suit, failure to take stern measures towards civil service reform is counter-progressive. Without doubt the government will remain in this fiscal fix of being largely consumptive and, unpopular as it sounds today, a civil service reform is what will set the right foundation in unlocking fiscal resources towards areas that will generate growth for the wider economy. The Canadian experience on this will teach us vital lessons. Are we settling on the Mozambican stabilization experience of having low inflation, steady growth, high unemployment and significant donor aid?

At a time the central government is in a big fix, the private sector should expect the road ahead to remain lonesome and at times dangerous. The central government is technically bankrupt, planning to spend beyond its means and therefore the private sector’s hope for a fiscal stimulus, if ever it existed, is impossible. In the past there have been very genuine concerns that strangled private sector growth relating to foreign currency shortages, price controls and a host of other non-progressive administrative interventions. Foreign currency is now abundant whilst the government has taken a back seat in interfering with day-to-day operations of private sector as in the past. With the price controls non-existent, the private sector has to re-look at its business model and understand why it is failing to take-off at the desirable speed.

It’s not a secret that most corporate balance sheets have become septic with debt as most companies plunged into debt with the blind assumption that they would improve production and get more profitable with dollarisation. Unbeknown private sector then, the balance sheets which had been made to look easy by hyperinflation, are rigid and there are other more important aspects that affect competitiveness other than just the availability of foreign currency and absence of price controls. The economy is now navigating an important learning curve, and hopefully many will be able to navigate the curve successfully without plunging into death. The government too has learnt its lessons the hard way. After having placed so much faith on donors to chip in with $810 million to fill the budget gaps, almost nothing came and indeed the shortcoming of its planning and forecasting have come to haunt it.

The private sector, unfortunately, may not have many chances to correct itself and realign balance sheets after making initial grave mistakes. Unlike the government that can decide to ignore its debt overhang of about $7 billion, the private sector would have to meet the expensive debt obligations at the banks and pay creditors without much recourse to softer options.

Although the fiscal policy review has spelt the difficult times ahead, the private sector, interestingly, has to take advantage of the prevailing fragile status of government finances and reshape its balance sheet for a more difficult future. The central government has created a precedent of poor wages and this has shaped expectations to the benefit of the private sector as wages have remained low across the board. Equally, the dollarisation has brought about a very stable exchange rate regime, and indeed the added benefits of relaxed foreign exchange regulations. These two aspects are very important in determining the competitiveness of the private sector during this globalised environment and the private sector has to take advantage of these whilst they still exist because expecting anything more will be placing too much hope on a dying Christmas tree.

On another note, the investment markets will be least expected to react positively. The stock market will most likely remain depressed as the liquidity crunch and poor domestic demand will dominate the last half of the year, issues that will impact negatively on earnings across most of the listed companies. Unlike in the past where all listed companies where blindly labeled “blue chip” and would generally not struggle to get credit, the banks are learning from one mistake after another and more difficult times lie ahead of some of the listed companies in accessing credit. Slowly some of the shares of the listed companies are no longer acceptable as collateral against loans and, worse still, a number of these listed companies do not have readily marketable assets that can be used as collateral. The difficulty in accessing credit will therefore remain pronounced for most of the listed companies, impacting negatively on the ability to raise both short and long-term debt to bolster working capital and refurbish physical capital needs of their balance sheets. Equally, the fact that the government has not raised wages implies that disposable incomes remain weak and this translates to depressed demand for goods and services. Listed banks will not be able to expand their product offerings

Notwithstanding the desire by many homeless Zimbabweans to own properties, the property market will remain depressed as capable buyers remain few on the market. The returns on the property market, a function of liquidity and pace of economic growth, will continue to suffer from the poor performance of the economy. Isn’t it a joke that, of the 235000 civil servants, not even a single one is eligible to qualify for the current mortgage facilities in the market to buy a house in Mbare when one considers their legitimate incomes below $300 per month? This reveals deep seated problems in the structure of the economy, and importantly, the wage restraint calls, to some extent, are misguided when all they will achieve is creating a nation of poor workers without homes of their own. The private sector wages, indexed to some extent on the civil service levels, are not sufficient to ignite meaningful demand in the property market. Resultantly, the short-term returns on the property market, from both the rental yields and capital gains perspectives, will remain depressed for investors looking at cashing in from this investment asset.

The money market is likely to remain attractive for the greater part of the second half of the year. Having been used to hyper-inflation miraculous money-market interest rate levels above 2000% p.a, many investors in Zimbabwe cannot stomach 10% per annum on the money market, and will dismiss it as ‘nothing’. The truth of the matter remains however that these returns, which are currently obtainable on the market, are very attractive considering that these are American dollars. For the blame that the banks are getting for the high cost of credit, part of it should equally go to the big investors on the money markets who are dictating the interest rates. A close look at the banks’ net interest margins reveal that the big money market investors are raking in more returns than the banks, a sign that the money market is very attractive for those with sizeable excess cash. And it is likely to remain so for the greater part of the year as little is anticipated in terms of capital injections unless the much-talked-about diamond sales live to their expectations.

Banks: Shoot long before government does and you are screwed

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.

DEBT CRISIS LOOMING

The dollarisation of the Zimbabwean economy eroded many other economy-wide risks that haunted corporates for almost a decade, from price controls to the inaccessibility foreign currency. With the much celebrated stability, a new crop of risk has emerged, and that relates to the debt crisis at both the national and private household level.

A decade of high inflation made borrowing a lucrative pass-time Zimbabwe. ZW$ asset prices kept rising whilst the real cost of debt diminished rapidly as the central government kept printing more money to cover the fiscal deficits. The subsequent inflation impoverished not only the government, but the households and corporates and the increasing despair was met by economy-wide subsidies which ignited more inflation. Indeed borrowers were the biggest beneficiaries of inflation. By 2008, s/he who borrowed the equivalent of $1 on 01 January 2008 had to pay back $0.01 by 31 December 2008 to the bank in settling the whole debt! The borrowers, including the central government, were the biggest winners whilst the consumers and the economy at large edged towards bankruptcy.

In May of 2007, the government borrowings were about 18% of bank balance sheets, and by December 2008, that had evaporated to almost nothing! Only fiscal moralists wouldn’t marvel at these great works of inflation in reversing the debt burden on the central government. And indeed the death of the ZW$ sealed the fate of banks, pension funds and insurance companies that held the bulk of government debt and today our government is better off with only $8 billion debt overhang. The moral opinion that the government created inflation and was among the major beneficiaries is therefore very hard to dismiss. With winners equally come the losers and as the borrowers, including the government, benefited from inflation, the banks and ordinary consumer lost their capital positions in real sense. Real wage rates plummeted, and indeed, the banks were left clutching to capital in the form of largely investment properties and equipment.

The tables have turned. A new crisis is lurking in the shadows of the optimism. And that relates to burdening real and expensive debt that may, if corporates are not careful, infect balance sheets and define a new chapter of corporate bankruptcy. In a bid to revitalize weak balance sheet and inject working capital, corporates in Zimbabwe have plunged into fresh debt arrangements. Physical capital formation had almost ceased for over 7 years in Zimbabwe, and considering the pace of global technological developments that swept across the past decade, most production processes are now outdated and, more importantly, inefficient. The domestic unit costs of production are therefore not competitive when compared to the rapid advancements and competition from low cost producers such as China and equally competitive producers like SA.

Inasmuch as the Zimbabwean corporates could have enjoyed the borrowing binge of the past 4 years, the exchange control regulations and the associated scarcity of foreign currency meant that the cheap credit could only do but very little for the borrowers in terms of enhancing capital goods, hence key components of balance sheets remained weak. Today’s new race for debt, thanks to the reluctance by banks to lend, has been influenced by the notion, misplaced at times, that the existing operational structures are still profitable and corporates can easily turn to producing profitably if they get working capital. Unfortunately most corporates are finding the going tough, and the recent results coming out of some of the listed companies are revealing how septic corporates balance sheets are getting by the day. With credit so pricey due to the current liquidity crunch, interest cost is proving to be a huge operational burden for many companies, and, unfortunately, the debt heaping on the balance sheets is increasing at a rate that will soon compromise the solvency of many companies.

On the other hand, the rising wage levels are adding to the woes on the cost functions, implying therefore that worker productivity will be taking a more important role in corporate planning going forward. In the past only $100 could pay all wages, water and electricity for a medium-sized company as the magical ‘burning’ of foreign currency immensely benefited owners of capital. Now the times have changed and all these costs are real on companies’ operation structures, and hyper-inflation, then ‘father miracles’, is no more to do the ‘Christmas tricks’. Just as the miraculous hyper-inflation Christmas tree dried, so has the subsidy mentality where BACOSSI and ASPEF created artificially low operating cost structures at the nationwide expense of even more inflation. Interrogating the debt markets to revitalize operations has become one last option for companies stuck with rising real operational costs and the need to restart operations that had been stopped for years. And it is indeed the way out, but equally with landmines.

Loans to the private sector stand at 30% of GDP in Zimbabwe today, and considering the shallow depth of the financial market and indeed the liquidity crunch, Zimbabwe’s private sector is highly geared compared to Zambia with only $1.6 billion in loans, about 8% of GDP and Tanzania with loans at 15% of GDP. However, upon factoring in the relative potential of Zimbabwe’s GDP considering very low capacity utilization below 45% in industry as well comparing with the debt-addicted South Africa where private sector debt is 90% of GDP, the temptation to encourage gearing remains very high in Zimbabwe. This temptation may prove to be rewarding for those that will be able to restructure operations and processes to embrace the dynamism and indeed thin-margin environment that is shaping out for sectors such as banking, manufacturing, retail, hospitality, insurance and of course those other sectors competing directly with low-cost global producers. And contracting debt in such sectors, more so expensive debt obtaining in Zimbabwe, the survival chances narrow with each extra day it stays on the balance sheet. For the central government, the fate has been decided already.

The government debt overhang, better at about $8 billion than otherwise had inflation not done its major miracles on the domestic debt, is stagnating economic growth already, and indeed, some corporates are falling into the same trap as the central government. The recent pounce on RBZ assets by numerous creditors bear testimony to real debt challenges facing the government where its assets are being stripped, and without a doubt, in the same fashion, more foreclosures will be tapping on corporate doorsteps. Shunning debt completely is not a viable option for Zimbabwean corporates considering the poor capital structures after a decade of inflation and the need to carry on but, equally, contracting debt blindly is not the answer in restructuring of balance sheets.

A fine balance would have to be struck, and in the process, some will likely lose the balance completely and plunge into bankruptcy. The intoxication, and resultant addiction that comes with debt is so hard to fight, and the recent global financial crisis tells the complete story. And for the banks that are going to lose money in foreclosures, learning from South African banks, ABSA and Standard Bank, that had impairment charges of $1.2 billion and $1.6 billion respectively in 2009 could provide the valuable lessons. The lessons will, unfortunately, result in more stringent lending and in the process constrict the credit flowing into the economy as is the case currently, compounding further the bankruptcy fears. These are the difficult times, tossing a coin with both heads and tails winning.

TARGETING WAGES IS POOR STABILISATION POLICY FOR ZIMBABWE

The IMF press release of June 2010 concluded the following on Zimbabawe: “Upside risks to the short-term growth outlook are materializing as the economy is benefitting from a significant increase in export prices and a good agricultural season……The authorities are advised to complete the on-going government payroll audit and start eliminating ghost workers, while attaching greater priority to social and development programs. It is also important to step up efforts in containing risks in the banking system, and to improve the business climate, in particular with respect to property rights. Against the background of a recent pickup in inflation and rising concerns about competitiveness, wage restraint is needed in both the private and public sectors….”

This general statement could be considered acceptable, but specifically the IMF doesn’t, unfortunately, seem to comprehend the dynamics of this country especially on the current challenges and what needs to be done specifically on the wages levels and civil service reform. Worrisome inflation is now a ghost that has been exorcised by the dollarisation in the literal sense. The subsequent deregulation of the goods and foreign exchange markets, abolishment of price controls etc have all converged to erode the distortions that usually favor demand-pull inflation. With the year-on-year at 6.1% in May, the IMF advice on wage restraint in both the private and public sectors is inappropriate.

True, there is a strong link between the wages and cost-push inflation in general, but to emphasize that point when considering the current state of the Zimbabwean economy is totally missing the point. Considering the broader dynamics of US$ pricing and deregulation of the goods market in Zimbabwe, this link has weakened significantly and may remain so for some time, and indeed that statement from the IMF could have only arisen out of ignorance. The imported inflation dynamics from balance of payment position need careful consideration especially if one considers that South Africa is Zimbabwe’s largest trading partner exporting $563 million worth of merchandise to Zimbabwe during the first quarter of this year. Therefore ignoring the US$/Rand exchange rate dynamics of the past quarter in understanding the inflation trajectory in Zimbabwe could create false perception on link between wage rates and inflation. Instead, working around the competitiveness of the industry and the economy as a whole should be the most important policy consideration ahead of wage restraint when targeting inflation going forward.

The major competitive hurdle industry is facing today emanates from shortage of working capital. Credit is not flowing in the economy as evidenced by the very low loan-to-deposit ratio below 50% within the banking sector, and more importantly, the little available credit is very expensive considering the long-term nature of capital that industry is seeking to revitalize weak balance sheets. The IMF has correctly noted that risk containment is very vital within the banking sector, but falls short to understand that every important link between high cost of capital and inflation ahead of wage levels.

Productive capacity within the manufacturing sector, for example, is still below 50%, and the excess capacity, itself a huge dent on competitiveness and efficiency, has more important effects on the industry’s critical fixed cost function ahead of the variable labour costs. Interesting as well is the fact that financial sector deepening and risk moderation will remain acute for the banking sector as long as domestic demand is still very weak, compounding further the ease with which credit can flow in the economy. Hence the wage levels play an important role not only in creating a sustainable pool of domestic demand to provide the market for the local producers, but equally to improve the overall financial sector risk perception that will result in credit doing its miracles.

The wages are still very low in nominal terms, averaging below $400 per month, and therefore making the financial markets more efficient could be more important in fighting inflation than having a blind policy of targeting wages. Internal growth models are very important in today’s well globalised environment, and without vibrant and sustainable domestic demand, Zimbabwe will take a more prolonged road towards solid recovery. The issue of brain drain has seriously affected this country, and the current low wage rates, if to be kept much lower for long, will not only perpetuate the status of Zimbabwe as a country of poor workers, but will equally hinder the infusion of superior skills at a time global labour mobility has become very fluid.

Equally, eliminating ghost workers cannot be more important than the broader rationalization of the entire civil service, whose core should be chopping excess baggage. GDP started declining in 1999, and almost 50% of it was wiped out by 2008. This of course translated to more energy having to be expended on state-related social programs to alleviate poverty, but considering equally that the central government’s solvency was compromised invalidates the justification in keeping about the same numbers of civil servants as in 1999. Wages take up about 70% of domestic revenues today, and trimming the government workforce will create fiscal breathing space and allow the government to embark on important capital projects. The secondary effects through private sector job creation will eventually offset the immediate employment losses and propel the economy into a more sustainable mode than the current hand-to-mouth fiscal position.

Therefore eliminating ghost workers should be part of the broader policy that should be moving towards containing the government wage bill within very specific targets than being part of a general policy of rationalization. Equally, the government has not been so clear on its targets, and a lot needs to be done towards setting and indeed moving towards the targets. What is the desirable level that wages should be capped as a percentage of domestic revenues? What is the target date by which government should be within the set limits? All these things need to be clear to steer the economy out of the mediocrity and work towards a vibrant second world economy.

Banking sector stable but troubled

Times are changing fast for the broader banking sector, and indeed the massive retrenchments that are happening in the sector send a strong message that all is not well and indeed, the rationalization is long overdue. Not so long ago the flurry of the Zim-dollar transactions associated with excessive liquidity saw banks going on a massive recruitment drive to fill-up their various divisions whose fortunes had ballooned. The ASPEF facilities created huge agri-business divisions; whist the high velocity of currency circulation saw the settlements departments getting bigger at more or less the same rate of inflation, jokingly. The RTGS transactions associated with the parallel market transactions, popularly known as ‘burning’, made this division one of the busiest in every bank. On the other hand, the Treasury functions, whose fortunes blossomed well during the ‘asset-management’ hay-days of between 2000 -2004 when ‘dealers’ were golden, remained very relevant and vibrant as the liquidity swings in the market during the hyper-inflation era pinned the daily survival of banks on the ability of their treasury teams to close deals in the market and balance their central clearing positions.

All these are excesses of the past that are now haunting the banking sector’s operational efficiency models. The Agri-business divisions are now haunted departments where lending to agriculture has been made very difficult not only by the current high cost of credit, but equally by the very short-term nature of loans that cannot afford the broader agricultural sectors to service interest due to the cyclicality of the cash flows. The death of the Zim-dollar has equally brought a near-death to the once hectic settlements departments as the volumes of transactions have drastically come down as households in the economy have lost the ‘burning’ magic of generating wealth, nominal or otherwise, out of thin air. The low loan to deposit ratio of less than 50% says a lot about reduced activities in the corporate banking departments, whilst, on sad note, the death of the Zim-dollar equally pronounced hardship sentences on many banks’ rural branches around the country whose depositors were left clutching only to their account numbers but with zero balances.

The massive retrenchments and branch closures happening in the sector are part of the broader rationalization programme, but more would be needed to preserve profitability considering that the cost to income ratio averaging above 120% is unsustainable. Zimbabwe has had a reasonable, but equally irrational staff retention policy of offering company cars, cell-phones etc to employees over the past decade – a practice that doesn’t make sense on corporate balance sheets as long as there are no economy-wide implicit subsidies out of generally high inflation. Considering the need to contain costs, this unfortunate policy should be heading towards extinction within the banking sector by year-end, and indeed some banks have already started off-loading the mountainous fleets of vehicles to employees. The use of US$ in the economy requires some measure of sanity in the broader decision making framework, and those corporates that continue to ride on the exuberant mentality of an inflationary environment may not live longer to correct their mistakes. Cleaning bank balance sheets would entail equally closing some non-profitable branches opened at the height of hyper-inflation, whilst keeping a very close eye on the quality of the loan book should be the most important risk consideration on any bank balance sheet going forward.

The net interest margins prevailing in the banking sector, generally above 71% for the top 10 commercial banks, are very healthy, but considering the very low loan-to-deposit ratios averaging 49%, and indeed the quantum of total deposits, it wouldn’t surprise why banks such as Barclays would generate $15 more from non-funded income for every $1 generated from net interest income. The message is clear: survival is still difficult in the broader banking circles, and by year end, many more drastic decisions would have been taken by various banks to clean balance sheets of excesses and realign with the stable, but very precarious trading environment. Unlike the ZW$ era where losses were never real, the US$ environment has real losses that would dent banks’ capital positions, and as such more consideration need to be paid to the bottom line than never before.

What does the future hold for the banking sector? The sector, as the rest of the economy, has huge potential, especially considering that the existing asset classes in the banking sector are so narrow and there is huge scope for market deepening. The existing low loan-to-deposit ratio says a lot about excess savings that exist in the economy and having huge potential to create value for the banking sector when perception and risk profiles improve later on. For lack of information and exposure, many would attribute the current liquidity crunch in the market to ‘insufficient’ deposits. With deposits now around $1.7 billion from as little as $400 million in April of 2009, that argument should be falling away, and indeed the current credit crunch has everything to do with market perception and risk profiles and very little to do with insufficient deposits except for the very small banks. Hence from a broader perspective, the banks have capacity to lend, but the issue of risk is holding back the flow of credit. Therefore once the market risk profile eases, more credit will be flowing and indeed more revenue will be generated on bank balance sheets. Looking across at Zambia and Tanzania with deposits to GDP ratios of around 15% and 28% respectively puts Zimbabwe’s 46% at an enviable position, but the pronounced economy-wide risk issues are holding back the flow of credit, creating the current crunch.

The commercial banking model remains the better of all the available models due to its ability to levy charges on the many transactions and accounts every bank would be having. Although the commercial banks with wide networks have better revenue models from ledger fees and commission income, the fact that about 50% of the global deposits are concentrated in three bank, i.e CBZ, Stanbic and Standard Chartered means equally that the bulk of the remaining banks are fighting for a smaller piece of the cake, and therefore more leaner and efficient operating structures will be driving force in the banks going forward. Equally, when faced with survival challenges, it is expected that innovation will quickly come to the fore, meaning that products such as consumer loans, asset finance scheme, etc will be coming back into the market quickly to broaden the income base of the banks. However the pace of economic recovery will have the final say on the products the banking sector will be able to create and sell efficiently.

Invest wisely or lose it

In psychology, they tell you that one’s behavior is influenced, to some extent, by the upbringing. Seven years of high inflation is a long time to sow stubborn habits in investors, and surely Zimbabwean stock market punters had become so much used to uneventful miracles that would see portfolios tripling or quadrupling on a daily basis in response hyperinflation that saw inflation hitting around 500 billion percent in late 2008, according to estimates. Of course Zimbabwe is now a totally different place but one thing has come to worry investors. For once stock market punters understand they can lose money on the Zimbabwe stock exchange. And many more will continue to lose money.

The phenomenon is not surprising in stable economies. In the 10 years since January 01 2000, the S&P 500 lost 2.7%, whilst the FTSE 100 has lost 2.4% before even factoring inflation. Let’s get closer to home. In the three years from 01 January 2007 to 31 December 2009, the Johannesburg Stock Exchange’s All Shares Index (ASI) gained 10.3%. Considering that cumulative inflation in South Africa was 27.4% over the same period, it is quite clear that the ASI has lost 14%. A person who invested 100 loaves of bread on the JSE in 2007 was only left with 86 loaves by end of 2009 when adjusted to inflation. Inflation eroded the other 14 loaves. The Lusaka Stock Exchange in Zambia (LuSE) has performed much better over the same period. A 100 loaves invested on 01 January 2007 on the LuSE were 109 by 31 December 2009. Although cumulative inflation was quite high at 39.5% over the three years in Zambia, investors on the LuSE emerged rare winners on the back of robust economic growth.

The dollarized trades on the Zimbabwe Stock Exchange (ZSE) since 19 February 2009 have obviously created distortions in terms of evaluating the real returns on the ZSE over a long period, but a glimpse on the year-to-date trading on the ZSE confirms that indeed investors can lose money on the stock market in Zimbabwe, which is so different from the last 4 years where the ZSE was always defying the law of gravity. Year to date, the Zimbabwe Stock Exchange has lost about 9.53%, whilst the some counters such as Fidelity Life have lost as much as 50%! Now it’s dawning on investors in Zimbabwe that a normal economy has some defined order where rewards and losses are more or less evenly distributed, and the choices that one make today will only reward them in the future more on the basis of sound judgment. And sadly, speculation will play vital role, but not usually rewarding.

Investors on the Zimbabwe Stock Exchange therefore need to sober and invest in companies with solid fundamentals. Some of the listed companies, without access to long term reasonably priced capital and strategic re-focusing will continue to reel under so much pressure for a very long time and it should not surprise anyone to realize that some companies will not declare dividends in the next 5 years. Some companies’ share prices are trading below their net asset values per share (NAV), with the likes of ZECO trading at 89% discount. In order to create and indeed crystallize value over the long term, investors should focus on the value the companies are likely to create in the future in line with various fundamental considerations. Let us consider an example. FBCH, the banking group, is trading at around 25% of its NAV. Theoretically, the fair value of FBCH would be around 14 cents per share and not the current 3.4 cents trading price and the differential would ordinarily be the ‘opportunity’ for punters to benefit on the upside. Unfortunately, as the market has come to a consensus, the share price of FBCH doesn’t need to be at 14 cents. Investors are not seeing reason, and indeed the market is collectively saying that the fundamentals associated with the future of the banking group have nothing to justify a share price of 14 cents today unless there are clearer fundamental changes on the likely future earnings of the group. Considering the need to capitalize its building society arm, and indeed the latent sustainable demand for housing, its market share and the general liquidity crunch, the banking sector is not at its best footing to convince the market to award FBCH favorable optimism today.

The same goes for the likes of NMB, ABCH and ZBFH that are trading far below their NAVs. Collectively, the Zimbabwe Stock Exchange will rise in line with general increases in the liquidity levels in the economy as what has been happening since dollarisation, and most of the share prices will gravitate towards their ‘fair’ value levels. But specifically, the returns that individual investors will get will be a function of sound judgment and investing in companies with better prospects, and to some extent, luck. I am a strong believer in luck, but luck only benefits those that are prepared. And as the law of attraction goes, luck meets those that anticipate it and indeed investors can put themselves in the path of luck through their actions and choices of companies they pick to invest in. The point remains therefore that yes, money can be lost on the stock market. Many will continue losing! Willdale share price has tumbled by about 60% since January 2010! That is so much loss in US$. I wouldn’t want to speculate and lose $60 for every $100 I would have invested in Willdale in such a short time. That’s a huge bundle, and I guess no one would want that.

And investing on the stock market in a stable economy is the much more difficult than investing during the hyper-inflation period where everyone has sure upside nominal benefits. Equally, as there would be losers, some will be benefiting and winning, and Zimplow has gone up 74% year to date! Ofcourse focusing entirely on the short term is a wrong approach to evaluating returns on the stock market considering the long term nature of stock market investments. But the figures from the S&P and FTSE over the last 10 years equally show that the short-term sometimes expounds to long term and the facts remain strong, and indeed stuck in the tradition of making losses! And therefore cutting your losses in the short term improves overall returns on the long term.

On the other side, the fixed income market, which became so active during the birth and boom of asset management companies in early 2000 on the back of rising inflation, has become so depressed largely due to the poor vision of the government in ignoring the importance of setting a risk-free rate in the economy. Generally, deposit interest rates are very low, mostly below 2% per annum and considering that inflation can close the year above 8.7%, investors on the money market are likely to lose money to inflation this year in Zimbabwe. Many Zimbabwean corporates are facing challenges in raising capital, and many right issues have been disastrous for sitting shareholders. Yet it remains mysterious why some of the seemingly ‘solid’ corporates are not interrogating the markets directly by issuing commercial paper in a market where those with excess cash feel cheated by the prevailing deposit interest rates.

Years of hyper-inflation, which should have hardened company strategists and made them more innovative seem to have, on the sad contrary, killed the real innovative genes of some company leaders in Zimbabwe. Accessing debt directly in the market will most likely reduce the current high cost of capital obtaining in the mainstream credit markets for corporates. And equally important would be the better rewards that will go directly to those with excess cash that have little choice as they are stuck in low-deposit interest rate environment. And it only needs companies with good vision to take the step of faith and attempt to change the current circumstances by interrogating the debt markets directly. What does this mean therefore? Does it suggest that we have incompetent CEOs running some of these big companies in Zimbabwe? The answer is a BIG yes, and some are not only incompetent, but are very foolish and continue to sit waiting for fortune to visit them. And its high time activist shareholders take their CEOs to task.

The stock and money markets in Zimbabwe are very tricky in 2010, and hope lies in improved economy-wide liquidity that will likely push the general asset price levels high to benefit the stock market punters, whilst the money market investors’ returns will improve due to reduced risk and predictability.

MONEY MARKETS RUNING WILD AND WIDE

Significant quantitative easing and a long dovish stance have kept interest rates in the major world markets close to zero for over a year. And since January 22 2008 when the US Fed Reserve made a significant rate cut in response to the liquidity crisis, key policy interest rates have hovered near zero for so long, much to the chagrin of bondholders in major markets such as the Euro-Zone, Japan and USA. Africa is however different place. Notwithstanding the crisis and a lull in ‘global’ interest rates, most sections of the African money markets remain uncorrelated with global events, and rightfully so.

Places such as Zambia and Zimbabwe have continued, as before, to reel under high real interests rates for the borrowers. Notwithstanding other countries such as Tanzania and Zambia slashing the policy rates from the highs of 2008 to encourage affordable flow of credit into their economies, the poor transmission mechanism of monetary has inhibited the benefits to the real economy serve for the respective governments reducing the costs of debt servicing. Zimbabwe, having run on a dollarized economy for over a year now, continues to experience one of the highest costs of credit in the world, and the absence of key policy interest rates and lender of last resort functionality has kept the market on a craze-wave in the determination of the interest rate levels.

Borrowing rates in Zimbabwe are varying from as low as 20% to as high as 40% per annum in the mainstream banking, whilst the secondary financial markets’ cost of capital range from anything above 150% per annum on annualised basis. These distortions, largely a function of the liquidity constraints and uncertainty, lend much of their roots equally to the absence of the ‘risk-free’ rate in the market to gauge the extent to which the economic players can price their various risks from the reference ‘anchor’.

Saddled with a huge debt of about $5.7 billion, thus about $100% of GDP, Zimbabwe is not in a desirable position to keep plunging into fresh debt arrangements considering fragility of government finances. That said however, it remains puzzling how Zimbabwe policy makers still remain silent on giving the financial markets pricing guidelines more than a year after adopting the multiple-currency system. The prevailing multiple currency system in Zimbabwe is creating ambiguities on the near-efficient ‘reference price’ for financial assets. Would Zimbabwe need to use the US bond yields at 0.42% for the one year risk-free rate? Since Zimbabwe is so close to SA and has so many Rands in its economy, would using SA’s repo rate at 6% be a sensible idea?

There are so many questions on the ‘risk-free’ rate in Zimbabwe as there are equally so many divergent answers. Policy makers need to understand that markets cannot be left to wonder and wander for so long because of the many distortions and economic costs this bring about in the wider economy. Zimbabwe’s inflation, unemployment, income levels and other key dynamics are so different from the countries whose currencies it has adopted, and therefore to have a reference to South Africa, US, UK or Australia’s reference pricing is not only a blind move, but a costly one too. For a country struggling with high unemployment estimated above 60% and worrying under-employment levels, the road to stabilization becomes long and costly too.

Notwithstanding its current debt challenges, the Zimbabwean government has to step in and set the ‘risk-free’ rate in line with the macro-economic dynamics of the country. The government therefore has to start issuing TBs and Bonds to give the market direction. Today municipalities, corporates and many other players in Zimbabwe wishing to interrogate the domestic debt market efficiently through issuing bonds to revamp their structural challenges are faced with the burdensome challenge of not knowing the ‘anchor’ risk-free rate. The borrowers are not willing to get into long-term debt arrangement for fear of locking themselves expensively on the long-end if consideration is given to the current high interest rates. The fear of making mistakes is compounded by that fact that no long-term reference pricing exists in the market, and considering the fresh history of the hyper-inflationary environment, the decision making process finds peace in going for short term debt arrangements, or, not at all! Yet, ironically, most corporates in Zimbabwe require reasonably-priced long-term capital to breathe life into the balance sheets that have been severely weakened by years of hyper-inflation.

The banks on the other hand are lending largely on the short-end, up to 3 months, in line with the same mentality of not knowing what the future holds. For the banks, the fear of the future is compounded more by the economy-wide liquidity constraints, the absence of lender of last resort, non-existence of liquid ‘risk-free’ assets and the dearth of a secondary market for credit securities. The secondary market is always a very vital window in generating liquidity on bank balance sheets in times of liquidity challenges. How do banks therefore effectively trade credit instruments on the secondary market without perfect knowledge of the policy risk-free rate? It would therefore be so unreasonable to trivialize the importance of the ‘risk-free rate’ in an economy that has a long history of policy uncertainty. And without the policy rate, any long-term pricing is left to speculation and as with the current case in Zimbabwe, the borrowers, and hence the wider economy, suffer from lack of reasonably priced short and long-term capital.

As companies continue to reel under serious capitalization challenges, and with banks’ loan-to deposit still below the desirable levels, the policy makers need to understand that equally the government revenue, which is itself a function of the scale of economic activities, would continue to remain depressed. Zimbabwe expects only about $1.4 billion revenue in 2010, and saddled with $1.7 billion of recurrent expenditure (117% of revenue), the helping hand of the donors has been over-estimated in the current fiscal year. This therefore requires structural and pragmatic solutions for the Zimbabwean economy, and totally missing the importance of a well-functional financial system with appropriate policy instruments to manage pricing expectations is retrogressive.

Free markets are generally thought to be efficient, but the recent global financial challenges have left huge holes on the validity of such assertions. Expecting therefore pricing efficiency on the money market in Zimbabwe without some policy benchmarks to guide expectations is putting too much faith in the power of markets to allocate resources efficiently. The effectiveness of monetary policy in some African economies continues to be debatable. As with Zimbabwe’s history, and with what has been happening in Zambia, Tanzania, Kenya etc, there definitely could be a dislocation in the efficiency of the monetary policy in influencing the real interest rates in the economy, but it is still much better to have a measure of the variance than not to have one at all. Zimbabwean policy makers should therefore never under-estimate the psychological power of the policy rate in influencing the decision making process and flow of money in the economy.

With the South Africa Rand expected to remain strong in the next 6 six months or so on the back of significant carry trade transactions on the back of very lucrative interest rate differentials between the Euro-Zone & USA, some curious eyes in Zimbabwe begin to wonder why Zimbabwe, with much higher interest rates than the 6% obtainable in SA, is not attracting so much, if at all, in terms of foreign portfolio investment inflows. SA has attracted over $2 billion of foreign portfolio investment inflows this year alone into bonds as foreign investors enjoy the ‘sunny’ interest rates. Why wouldn’t an investor in UK or Germany borrow at their current rates of around 1% per annum and invest in 20% yields obtaining on the Zimbabwean market? The key consideration for most investors would be around the sustainability of the obtaining yields in Zimbabwe. When one digs deeper to evaluate the extent of the credit spreads and realizes that in fact there is no reference risk-free rate in the economy, the conclusion that such yields are unsustainable and therefore a house of cards is difficult to argue with. On the other hand, the short-term nature of the investment assets in the market hastily confirms this fear, and as such attracting meaningful carry-trade related foreign portfolio investments into Zimbabwe becomes a pipe-dream.

The Zimbabwe policy makers therefore need to consider seriously that inasmuch as they wouldn’t want to plunge into unnecessary debt arrangements because of the current debt burden, the costs of an inefficient money market pricing system in not a better choice either. Many key fiscal requirements of capital nature require funding in Zimbabwe today to stimulate growth. Therefore raising debt in the market with the twin objectives of funding activities with larger multiplier effects on employment creation and on the other hand giving the financial markets risk-free benchmarks could be the one of the best policy option that policy makers can take in addressing an array of challenges with one stroke of action. Equally important would be the adequate capitalization of the RBZ to allow it to carry out the functions of ‘lender of last resort’ to calm the nerves on the interbank market.

Fiscal policy dilemma runs deep in Zimbabwe

Maintaining the growth momentum in the economic stabilization phase is a very crucial element in creating both private and public sector confidence, especially when coming out of a 10-year recession. And the ability of Zimbabwean policy makers to keep delivering the growth promise will depend on their choices of sustainable policies. Worldwide, governments have varying history of making good and bad decisions, but what always makes the positive difference at the end of the day is the consistence in making more good decisions and reducing the incidences, and indeed implementation of bad decisions for a long time. The price slashes of yester-year, wholesale economy-wide subsidies and exchange control regulations are some of the bad economic decisions by the Zimbabwe government that were implemented and believed in for a long time, and the results of such policies have left a huge dent on the economic landscape.

The time has come again for the Zimbabwe government to make hard, but corrective decisions. There is need to implement drastic civil service reforms to unlock the obtaining scarce financial resources towards more productive sectors of the economy ahead of the wasteful consumptive expenditure gobbling 70% of domestic revenue. After having placed too much, and indeed questionable faith on the influence of donors on funding the 2010 budget, realities of donors not playing ball have come to poke holes in the optimism of the stabilization process. Having received only about $3 million of the anticipated $810 donor support by end of March, the Zimbabwean government has little option but to re-write the 2010 budget during the half-year review and institute a serious civil service reform.

Donor challenges are not uncommon at all in Africa. Mozambique has seen challenges after donors threatened to withhold $472 million in the 2010 budgetary support, while Malawi had to plead with the IMF for it to negotiate with donors to release $545 million they were withholding in budgetary support. Malawi is one of the highest per capita aid receipts in Africa with donors supporting 40% of its budget for about 14 million people. Zambia was equally left in the limbo when donors threatened to suspend $600 million in donor funds for the 2010 budget over allegations of public sector corruption, and the government had to dig in by making budgetary cuts. Tanzania, having had a fair challenge with some donors in the past, has about $831 million donor funding for the 2009/2010 budget, constituting about 12% of its budget from about 14 major donor countries.

These figures show that donors still play a very crucial role in providing development finance in many African countries, but it is important to note equally that getting significant donor funds is not always easy and understanding their behavior is vital for Zimbabwe when making budgetary consideration on such funds. There are so many conditions that donors attach to their bags of cash. Failure to meet such conditions invites threats, the many threats that always create uneasiness and headaches when Finance Ministers in Africa prepare their national budgets with begging bowls in hand.

Unfortunately the Zimbabwean government has little room to tweak the revenue side to meet the original budgetary expectations now that donors have not come in as anticipated. Domestic borrowing, though inexistent but very crucial at the moment, will be lucky to raise over $300 million considering low deposit levels in the banking sector below $1.5 billion and risk aversion. Very few options therefore remain at hand for the Zimbabwean government in raising the revenue levels from the projected $1.4 billion for the 2010 fiscal year. The privatization route, a process that cannot be hastened considering the deplorable nature of some of the key targets, is nothing to write home about, although it would still be crucial to stop fiscal bleeding through subsidies to inefficient Parastatals that have long ceased to be valuable by any measure of economic logic.

The government, being the largest employer and capping salaries at less than $300 per month, has spelt gloom on the private sector wages expectations. Vibrant domestic demand is what will pull the Zimbabwean economy back on track as that will provide a strong market for domestic producers, whilst the secondary effect on government revenue would be quite significant. Inasmuch as the current weak government finances diminishes the rate of economic recovery, more can still be done to create an efficient public finance management program that will spur growth faster than the current rate of growth. The current government wage-bill at 70% of the domestic revenues is unsustainable and reveals deep-seated inefficiencies in the government decision making processes and prioritizations. The Zimbabwean economy has shrunk by over 40% since 1999, whilst the civil service figures have hovered around the same levels over the same period.

The priority of the government therefore should be to have a credible and effective civil service reform that reduces the number of civil servants by almost half, an exercise that will unlock at least $200 million annually toward capital expenditure, which in itself will self-correct the situation over time by creating more employment opportunities. Although this is a politically sensitive issue especially ahead of elections that can be held anytime from 2011, the Zimbabwe Unity government should understand that making this decision collectively now could be the best option for the party that will eventually win the elections. The winning party will begin on more efficient government structures and will most likely be able to deliver pre-election promises than having to start cleaning up the mess from day one in office. For a country whose average civil service salaries had plummeted to less than $10 per month in 2008, the current civil service salary levels today around $200 per month are a major milestone although more needs to be done to bring cascading salary scales that will allow the public service to attract efficient labour into its structures. But are the policy makers ready to make that decision that can ruffle the very political votes they need to remain in office? That is the biggest dilemma. Either they keep the unsustainable civil service without any reform, in the process burdening the economic recovery process, or they reform, face the militant labor unions but eventually deliver the promise. The government ought to have learnt from the past mistakes of unsustainable policies for short-term gains, and this time around history should be the best teacher.

Zimbabwe has suffered massive brain drain on the back of deteriorating economic conditions, and attracting good engineers, administrators, scientists, economists, IT specialists etc back into the civil service today is the most difficult thing to imagine considering the poor working conditions and gloom prospects. The average salary in South Africa is about R 16,500 per month ($2,200) compared to the average wage in Zimbabwe below $500. Considering that the average wage in Zimbabwe was $1,546 in 1990, more needs to be done in aligning government priorities towards sustainable growth, and it starts with its budgetary priorities. Therefore the government, in the quest for sustainable fiscal expenditure and efficient service delivery through proper skills retention and attraction, has very little choice but to implement a drastic civil service reform at the earliest possible to minimize economic losses and sustain growth that will create more employment opportunities and help fight poverty in a broader perspective.