Crossing the Grumeti River, The Bankruptcy Test

Every June, for those with a huge passion for wildlife, is a beautiful time to watch the world’s biggest wildlife migration in Serengeti, Tanzania. There would be so much excitement among the animals, especially the 1.3 million Wildebeest, the 400,000 Gazelles and over 50,000 zebras, among the over 2 million herbivores that endure the 250 km journey. The Masai Mara, in South-Western Kenya, would be the coveted destination as the search for pastures will be generating the excitement and hope. But with the promised land so far with many dangers and pitfalls, not all will make it. The lions, leopards, cheetahs, hyenas and other predators wait for their turns as easy prey come along. The long hunting nights will be over, at least for a while. And indeed the Grumeti river crossing is the pinnacle of all. It will be beginning of the Crocodile Meat Festival. Crocodiles need not ambush the prey, but they just wait as prey comes trampling on them as the hordes of animals cross the Grumeti river, indeed the beginning of the festival.

The Great animal migration in Tanzania to Kenya and vice versa, the endless pilgrimage in water and pastures, reminisces the current journey Zimbabwe companies are taking from the hyper-inflation environment into the dollarized era. The folk-stories at Renaissance Bank, the travails of Lobels Bakeries, the humbling of Rio Zim, the troubles of Steelnet and the jetlegs at Air Zimbabwe, among many struggling companies, mirror the dangers of crossing the Grumeti river. The 5 years to 2008 that was characterized by high inflation created, unfortunately, a very poor breed of management among some corporates in Zimbabwe.

Institutional recklessness, which indeed was an important element for one to survive during high inflation, has unfortunately been carried over to the dollarized environment. And its claiming scalps! The many rivers of inflation that criss-crossed the Zimbabwe business environment, the blessed rivers of life then, would absolve all who cared to get baptism! And all bad decisions and debts would be washed away with the current! The government and all who borrowed in local currency before February 2009 were forgiven when the economy dollarized. They are all free today of their past ZW$ obligation, and the great migration, among pomp and fun-fare, started towards dollarisation. The promised land of dollarisation had adverts showing highways devoid of price control, exchange control regulation and with free access to foreign exchange! And indeed it was a good journey into the promised land.

Unfortunately crossing the Grumeti river has never been easy. Surviving a biting liquidity crunch has not been easy for AIG, Lehman Brothers, UBS, Northern Rock and many other EU and American companies. Governments in the EU and US fell over each other pumping billions of dollars to ease the crunch and save their economies. It therefore clear how much bleeding and disaster it is for Zimbabwean companies in taking debt dosages with interest rates above 20%,and at times over 35% per annum.

Crocodiles of bankruptcy now patrol these same debt rivers that once had the waters of salvation during hey days of inflation when borrowing was fashionable. Today all that carelessly go for a dip are mauled. Red Star, PG Industries, Steelnet, Lobels, Rio Zim, to name but a few giants, have not escaped the jaws of the debt crocodiles. The burden of interest cost on debt has compromised the strength of their cash flows. Many such troubled companies as Rio Zim may have solace and excitement in putting press statements about how conscious they are about their gearing position. But press statements, for what they are, are just statements. They don't change poor operating models and soon, corporate egos that could swim during inflation will find buoyancy the most difficult thing to maintain in the still waters of dollarisation that, unbeknown to those attempting to cross the Grumeti River, has huge undercurrents and crocodiles that will sweep them away.

Unfortunately the banking sector has no capacity to carry the excesses of sick companies, neither do creditors. Bankers are grappling with their own problems with regards non-performing loan, reported last recently above 30% of loan books. These are bad decision coming back to haunt otherwise good intentions by bankers that, in retrospect, were recklessly implemented. But as always, bankers get blamed for all bad debts, whilst the borrowers get very little remorse. When a debt goes bad, it’s the banker that made a bad decision, not the borrower! And indeed many borrowers in Zimbabwe still court the hyper-inflation mentality of yester-year where they borrow recklessly with no intention or repaying back the money. This is over-trading with criminal connotations! And indeed the recent press reports by some policy makers making gestures that seem to condone the behaviour that encourages borrowers not to repay their debts is very regrettable.

The market mechanism is very clear in dealing with the weak and inefficient. Even the natural animal habitat has a very efficient way of regulating the numbers, including that all human beings die at some stage. We can’t live forever, save for our souls. Its time therefore that policy makers and entrepreneurs contend with the possibilities and indeed realities of companies going under, no-matter how big. But bankers will always be at the centre of most storms in crises because the notion, an erroneous one, will always exist that they have to give everyone money. And considering the small balance sheets and tight capital positions with most banks in Zimbabwe, bankers are better off shunning big deals. It’s very unfortunate that the big companies need big monies to restructure, but when they collapse, they go down with the banks that would have stepped in to assist. And indeed the market and jury will be right to pass a verdict condemning the banker for having lacked prudence and oversight.

But that is however not the desirable path for Zimbabwe that has unemployment rate above 60% and desperately needing a vibrant middle class to pull the economy up. Although Italy and Germany would have economies centered on small companies, Zimbabwe desperately needs a handful of big companies that make a huge difference in employment number. Unfortunately globalization has come and its there to stay. A chat with Republicans in America will reveal how much they don't like the Chinese for having stolen millions of American jobs by providing cheap goods that have driven hundreds of big US companies out of business. Many companies such global brands as Motorola, BMW, Apple, Nokia etc now outsource and at times set up plants in low-cost production zones around the world. Terry Gou’s Hon Hai company, the biggest contract manufacturer of electronics in the world with its biggest plant in Shenzhen, China, exports over $50 billion worth of goods to such companies as Apple, Nokia, Sony, Dell and a host of others. The competitive issue therefore nowadays is not really about cost and availability of capital alone as many in Zimbabwe companies believe. It’s much broader, encompassing supply chain efficiencies, productivity, technology, labour and everything that affects the final total cost and quality of products. Why would a men's suit cost $20 retail in China and yet a poor quality one cost $90 in Express Stores? A tie would cost $0.30 in China whilst getting one locally in Enbee for a school kid is around $5! Don't we export the cotton to China? Would the huge price differential be explained by the high cost of capital alone?

Definitely capital is important to set up the machinery and secure all important production elements, but there is much more that needs to gel with capital availability to make a producer very competitive, the very reason why even countries with cheap and available capital such as the US have been seeing companies relocating to China and other low cost countries. And the problems confronting Zimbabwean companies seem to be converging in huge numbers: inefficient and expensive labour, poor infrastructure, energy challenges, weak domestic market and of course lack of capital. Indeed the road towards bankruptcy is still very wide, and many more companies, inasmuch as it hurts, are taking their steps towards their destiny. It’s a way the market operates, and as others close, new ones get born. The major temptation that is hastening the whole bankruptcy dilemma is overtrading – thus borrowing more than what the balance sheet can sustain and accruing creditors at a very fast rate with only but hope that probably a miracle will happen to correct the situation. And unfortunately miracles of such nature have since gone with inflation.

LISTED COMPANIES - NOT SO BLUE AFTER ALL

The last week has been indeed a very important one for not only investors, but equally for policy makers in gauging the direction ofthe economy. Most listed companies and banks in general have been publishing their results which, to a large extent, have been impressive. The adage that ‘size does not matter, what matters is how you use it’ has been put to test once again, and indeed some ‘seemingly’ big institutions such as ZB Holdings and PG have failed to use their perceived size to generate positive earnings for investors with full year losses of $2.6 and $9.2 million respectively.

Among the banking stocks, CBZ Holdings, with a remarkable trading P/E of 6x, is one of the most attractive counters on the market after it bagged $22million in profits in 2010. The market capitalization levels of companies on the ZSE continue to show interesting valuation aspects, with highly geared companies getting the lowest confidence. Interfresh, after having made a profit of $3.7 million, albeit heavy reliance on revaluation gains amounting to $7.3 million, is trading at a market cap of $1.5 million! Where on earth would one find such a cheap stock whose market cap is half its annual profit? Shouldn’t Interfresh be the most attractive counters onthe ZSE? A closer look at its balance sheet reveals a worrying debt component in excess of $5 million. Indeed the market has been discounting such stocks that do not exhibit strong positive cash flows that can potentially extinguish debts that are sitting on their balance sheet. And equally important, its revaluations at $7.3 million versus a loss from operations at $2 million point to a very long road ahead of Interfresh towards return to real profitability backed by positive cash flows.

Therefore, considering the very slim possibility that Interfresh will declare a dividend in the next three or so years, investors will find it hard to see value in the stock, and indeed its market cap at $1.5 million is probably a very true reflection of the value of the company. PG Industries is one such listed company that has equally suffocated under the debt burden and inefficiencies since dollarisation and has, expectedly, lost the keys to open the doors to profitability, churning a massive $9.2 million loss in 2010. Having struggled with a debt that had ballooned to $10 million just before its right issue in December2010, PG’s subsequent proceeds from the $11.2 million right issues had very little impact in changing its falling fortunes. Unusually high losses typically put struggling companies’ going concern in serious doubt, and surely the market does not wish to see another Gulliver,Redstar or Bindura in PG. PG has failed to re-align operations tosatisfy the modesty and efficiency that is called for in a stable environment with low operating margins, and resultantly it has not managed to steer clear of trouble.

And a fragile cash-flow position and unsustainable operating costs have haunted it for long. The market will not, however, give PG the proverbial nine lives of a cat and unlike the Zim-dollar environment, the losses that PG is making are real and it has to move quickly to plug the leakages. Its shareholders, having recently capitalized it, inadequately though, may not be having the same appetite and ability to inject more money to fund an unviable business model.

And the local lenders, having burnt their fingers in PGs before (such as BancAbc), will likely want to keep their distance from such a big company whose magnitude of losses are enough to bring down a couple of small banks in town. Therefore the future of PG rests with the ability of the board to demonstrate above-usual leadership skills by learning two key aspects on managing a business in a stable environment - keeping costs down and optimizing debt.

The advent of dollarisation has brought in very low inflation (nowbelow 4%), liquidity crunch, real costs of doing business and thinoperating margins. Some of the weaknesses of business models that survived under hyper-inflation where costs were subsidized have now been exposed. Common blame has now been on the inaccessibility and high cost of capital, but the bottom line remains that no more subsidies exist in this economy for poor business models and the time has come for managers to take full responsibility for running their businesses. The tragedies of PG Industries, Redstar, Gulliver and Steelnet, among other listed companies, show that indeed some business models need to change or perish. Unlike in 2006-2008 era when borrowing was the most lucrative activityon any company’s balance sheet, the costs of borrowing in the dollarized environment are real and many companies, including listed ones, have lost the ‘blue chip’ status.

Indeed bankers and creditors who will lend goods and services without security to listed companies just on the strength of it being listed may learn the hard way that all that sounds, looks and smells blue is not blue after all. Banks therefore have to remain very vigilant in such circumstances to ensure that they do not carry the burden of economic losses via exposure to high non-performing loans of inefficient companies. Zimbabwe corporate environment is navigating through a very important phase of creative destruction, and banks, for their very important intermediation role that keeps credit flowing to facilitate trade, need to remain vigilant and safeguard their capital.

BARCLAYS BANK – NONSENSICAL ARROGANCE, COSTLY ALOOFNESS

Good signs of progress

The reporting season is upon us and there is little doubt that the economy has turned around the corner, at least for companies that are managing to navigate through debt traps and keeping costs down. The impressive results coming out of Innscor, Dairibord, Cafca and Truworths, among others, reveal a growing impressive profitability path. These are clear signals of domestic demand improving at are markable pace although the numbers are not reflecting clearly in theGDP growth figures that remain somewhat depressed. The Innscor Africa’s goods train, whose coaches are representative ofthe broader FMCG segment of the economy, has notched a massive 22%increase in revenue for the six months to $255m, a very clear andbroad sign that indeed domestic demand is strengthening.

Inasmuch asgovernment coffers are showing a gloomy picture, at least for now considering treasury revenue for the first two months of 2011 has fallen below the target by about 40%, the broader economy-wide risksare tapering-off. By growing its pre-tax profit 2.3 times more thanthe corresponding growth in revenue in 2010, Innscor has exhibited significant cost containment measures, and indeed the continued expansion and refurbishments should bolster earnings significantly inthe future considering the consumer purchasing power that is increasing at a sustainable pace. However, considering the significant cash that Innscor generates, the group should actively optimize the same and reduce the temptation to grow the debt exposure that compromises future earnings and liquidity.

Profitable Banks, a good economy

The banking sector, which is the barometer of the broader economy, isyet to publish most of its results but Barclays Bank Zimbabwe hasalready opened the fair with dismal performance, posting a loss of$1.4 million for the full year to December 2010. BancABC’s local operations have realized a modest $3.6 million profit over the same period, a significant turnaround from the losses of 2009. And indeed the share price rose 18.6% soon after the results announcement, a showof confidence in the banking group. Cabs Building Society, on the other hand, has exhibited important efficiencies in the six months to December 2010, needing only $6million to run its very huge branch network, a very important and practical case study for other banks to learn from. Barclays struggled with operating expenses at $33 million in 2010. For the six month,Cabs went on to make an all important $5.5m after tax profit(excluding property revaluation gain). The decent profits coming outof banks are good indications of moderating risks and that signal better times ahead for the economy. This will generally translate to cheaper, longer and flexible credit becoming available.

Across the border, South African Banks, sitting on deposits of $359.8 billion asof December 2010 and loans of $306.1 billion, have equally improved on their profitability. ABSA, the biggest bank, made an operating profitof $1.3 billion for 2010. Barclays Bank Zimbabwe somewhat exudes significant elements of itsglobal DNA. The Barclays Bank Group has generally been the conservative type, having been one of the few banks that did not receive government bailout funds in the UK at the height of the financial crisis in 2008. But it has however remained largely profitable, and for 2010, Barclay’s Plc pre-tax profit rose 30% to £6billion. Barclays Bank Zimbabwe has however taken conservatism to theextent that has not only frustrated investors, but has equally seenits deposit market share plummet significantly to as low as 7% in 2010 from as high as 15% in June of 2006. These figures reveal market confidence that continues to slip from its palms and indeed, with its aloofness, Barclays is gravitating towards the pool of the small banks in town, the tag it rightfully deserves. But does size really matterin banking? Indeed it does given the narrowing net interest margins and surely bigger banks are better placed to make decent profits than smaller ones.

Managing banks in difficult economic times is not an easy task considering the need to safeguard liquidity and solvency whilst at the same time contending with an expectant economy looking for easy and cheap credit. At a time most of the banks are increasing credit facilities to customers to assist the economy that is desperately in need of credit, Barclays Bank Zimbabwe has rather decided to remain very conservative. The preamble to its 2010 financial statements is fraught with glaring contradictions that probably seek to pacify investors that are tired of the same old justifications for poor performance. Although claiming to be negotiating the ‘environment with minimal adverse impact to customers, employees and shareholders’, the very figures in the financial statements flatly refute these assertions. Its loan to deposit ratio, at a paltry 23%, is the lowest in the market that averages 65%. Banks generally keep more cash toward the end of the year as a strategy to ensure that their credit rating levels are favourable from the liquidity perspective, and Barclays seems to have embraced the idea wrongly, if at all it was the intention. It is not surprising therefore that, after having failed to adjudicate credit risks appropriately and ending up sitting on piles of cash under the guise of safeguarding liquidity, Barclays Bank Zimbabwe has failed to identify the road to profitability, posting aloss of $1.4 million for the 2010 full year. Worse still, this isafter it had received $6.5 million in restructuring assistance for the retrenchment of 206 employees from Barclays Plc.

Does it not cross the ‘minds’ of Barclays Bank Zimbabwe, listed for that matter, that levying bank charges of $19 million vis-à-visinterest income of a paltry $4 million is a sign of excessive risk-averse behavior, being insensitive and more importantly failing the vital intermediation role that the banks are supposed to play? Comparatively, BancABC Zimbabwe’s interest income, at $16 million, is decently much higher than its non-funded income at $10.7 million and when compared to Barclays’ income structure, Barclays leaves a lot tobe desired.

Barclays needs to learn the importance of keeping its costs down so that even when it decides to toe the line of a conservative lending approach, it would not inadvertently incline heavily towards non-funded income as the main income source to remain afloat. Of course Barclays bank will not probably be the only bank that will show excessive dependence on non-funded income. But the fact that it purposefully keeps its lending too low (the lowest in thesector) puts itself in the path of well deserved criticism. Indeed it would be disastrous for the economy as a whole if CBZ and BancABC, among other big banks in the market, had the same mentality of conservative lending as Barclays’.When a bank the size of Barclays is so scared to lend, hallucinating bad debts stalking it from every corner, the logical conclusion therefore becomes that the ‘robust risk management framework’ that the bank so claims to have is either non-existent or incorrectly specified. Is this not the same bank that saddled its balance sheet with non-performing 2-year special TBs back then in 2006 and 2007 when it consistently failed to apply its excess liquidity to good use and the RBZ would wipe the same and lock it up for 2-years? And indeed ithas been losing market share, moving toward the middle-tier banks but more worrying still, not understanding how to make profit. In its results publication, Barclays Bank Zimbabwe also bemoans the‘slower than initially anticipated’ economic recovery.

By deciding to be very conservative in its lending, the bank is indeed amplifying the same economic risks its running away from – the act of a bank entangled in an inextricable web of self delusion. The individual decisions of a bank the size and stature of Barclays have a big impact on the perception and quantification of country risk. Lines of credit usually come through banks. Therefore when banks such as Barclays are very conservative in lending locally, continuing to be wary of risks in the economy, only courageous foreign investors will take the bold step to see the opportunities and proceed to establish lines of credit for the country.

And Barclays therefore does not only become a pain to investors holding on to its stocks, but equally to a local banking sector whose fortunes on lines of credit become mis-interpreted by foreign investors who may naturally incline toward Barclays’ exaggerated negative view of the economy. After all has been said, the income structure and lending attitude of Barclays Bank seriously compromises its role in the banking sector and being a big bank, Barclays may need to take very important lessons from equally big and profitable listed banks such as CBZ and BancABC and meet the expectations of investors and the economy as a whole.

Investigating foreign banks- noble idea, but...

Spreading like a deadly flu bug in winter, policy makers around the world are increasingly getting insecure without the levers to manage the allocative process of resources in their respective economies. In the UK, Vince Cable has been vocal in pushing for reforms that would compel banks to lend more to small British businesses that have suffered from lack of credit, failure of which the banks would be taxed more. And indeed the 50% tax to be levied on the banks themselves for bonuses above £25,000 is punitive enough considering the very big insatiable appetite for bonuses by bankers in Europe.

In the USA, having been burnt by the large banks gobbled hundreds of billions in fiscal bailout costs, the USA Fed Chairman, Ben Bernanke said “that a combination of tougher oversight and tighter capital requirements will take away the attractiveness” of banks getting too big to fail. This bears testimony to the fact that even in the USA, where capitalism and free markets ought to have originated, policy makers are getting worried about size issues in the banking sector. And indeed they are right.

The National Indigenisation and Economic Empowerment Board (NIEEB) in Zimbabwe is reportedly in a bid to investigate foreign banks that are supposedly not lending generously as their indigenous counterparts. This is not the first time that some banks have been accused of being unpatriotic and selfish. During the hyperinflation environment of between 2003-2008, banks were labeled the biggest enemies and saboteurs of progress for their roles in fueling the then illegal parallel foreign currency market and instigating stock market exuberance.

This time around, the accusations have changed, but the views that the some banks are not championing the good cause of the economy remain strong. The banks in Zimbabwe, having been the worst affected by hyperinflation, worse being a tightly regulated industry, have been under pressure from the regulators to comply with stringent capital requirements. The banks were arguably the worst losers during hyperinflation, for that which they held as trading assets, the ZimDollar, was that which lost value by the minute. And the indeed the death of the ZimDollar in 2008 bears testimony to the indescribable suffering and loss that the banks have gone through on their capital positions.

Had it not been the mischief of bankers in investing in properties and other value-preserving assets, today many would have struggled to meet the minimum capital requirements. And having survived, trading in an environment with low liquidity and acute credit risks after the dollarisation saw the bank treading carefully on, with the loan to deposit ratio at 33% in April 2009, justifiably so. By October of 2009, it had improved to 49%, but still low compared to regional standards and falling short of the requirements of the economy. NIEEB accuses foreign banks of not lending, their crime being that of collecting deposits from the struggling domestic economy and keeping them on their nostro accounts, like any other local bank of course since all this is foreign currency, in the process benefiting foreigners in the economies where these deposits sit. In the process, the watchful foreign banks whose country exposure limits are set outside the country, remain cautious and have kept their lending very limited, impacting largely on the loan to deposit ratio that currently sits around 62%.

The calls for banks to lend more towards the economy are very noble, for without reasonable flow of credit, the recovery process will be long and very fragile. The domestic credit markets are on the short-end, creating a huge dislocation for most corporates that need long-term debt to restructure their physical capital structures. And that failure to get long term debt, coupled with inefficient labour market and other structural ills, has seen the majority of domestic companies failing to compete favorably with regional and international low cost producers. The implication of this on unemployment and government revenue is a crucial aspect to tackle, and without important reforms that influence bank behaviors to tow the line of national vision and economic policy, Zimbabwe will wear the tag of the sick-man of Southern Africa longer than necessary.

Banks that are hesitant to lend stand in the way of progress, and indeed the unpopular quantitative easing that was adopted by the EU and USA in bailing out banks during the global financial crisis of 2007-2009 was specifically to ensure that credit would continue to flow in their economies to sustain growth and jobs. And the calls for foreign banks in Zimbabwe to be reasonable in their lending policies are therefore not far-fetched. The reasoning is straightforward. If some of the foreign banks in Zimbabwe have country exposure limits on loans they issue at any particular point in time and therefore stifling credit creation, they should equally have limits on the deposits that they take so that they allow those progressive banking institutions that wish to lend enough room to mobilize deposits and play their part in the re-building of the economy. It is retrogressive that country limits are placed by banks on loans they issue yet there are no limits on the deposits that they take.

Policy makers therefore need to come up with regulations that discourage such behavior. The Chinese state-owned banks protection experience has been influential in driving Chinese growth to this day where China is a global superpower, notwithstanding persistent biased criticism from such institutions as the IMF. The Chinese banking model is a very good learning point for developing countries, and indeed without sufficient levers to influence the behavior of banks toward lending, China would not be an important global player today.

Whilst it is true that the ongoing economic reforms in Zimbabwe cannot be implemented successfully without the support of banks, and that banks need to be more reasonable in their credit granting, it is equally important to note that the risks in the economy remain high, and indeed the economy needs healthy banks that will be able to stand the test of time. The Chinese example given earlier on how toxic assets on bank balance sheet have not derailed Chinese economic progress challenges this notion, but the striking difference will always be the huge surplus reserves that China has piled up that have been employed by the state to subsidize the seemingly unhealthy big state banks that have not taken the foot off the accelerator in lending.

The recent global financial crisis was instigated by the pile-up of toxic loans, and today the whole world join hands in condemning global bankers for having been speculative, irrational and stupid. For all the bad loans, never has the blame gone to the borrowers. Bad borrowers for that matter!! The bad borrowers have been exonerated, and the good bankers then that gave them easy credit take to the stand on charges of being greedy, naïve and reckless. The same taxpayers that benefited in the glut of easy credit don’t want to part with a dime in safeguarding the ‘bright’ weather friends, and indeed the fierce public protests and resistance that met bank rescue plans in Europe and US point to the fact that no matter how good banks make easy credit accessible, blame will never be on bad borrowers, but rather on the banks for making bad lending decisions.

And if the indigenous banks in Zimbabwe that are lending generously ahead of their foreign-owned counterparts begin to suffer huge bad debts and massive capital erosion, the blame will never be on the bad borrowers and the fragile economy. It will pin on their decisions, and sadly, unlike in the EU and USA, the Zimbabwe government has no fiscal space anymore for bailouts.

The scenario therefore that some foreign banks in Zimbabwe find themselves in is very delicate and precarious. But the economy has to move one and the time has come for everyone to play ball, including foreign banks even though they may be seeing other imaginary risks.

NIEEB, instead of looking at, and taking the fight to defiant banks alone, should rather take the government to task. If the objective of the Zimbabwe inclusive government is to influence the flow of credit in the economy, it should equally be concerned about the distribution mechanism that allocates deposits among the banks. Why would a serious government concerned about credit growth, knowingly aware that the indigenous banks are friendlier in generating credit, make payments for goods and services to such providers that do not bank with the indigenous banks? And would such a government and its Parastatals and other quasi-government institution ever award a tender to any service provider not banking with an indigenous bank? Is it too difficult to learn the BEE policies in SA whereby it is so difficult to conduct meaningful business if one is not compliant?

The government is the major spender in the economy today and Minister Biti’s budget later this week will confirm the same. And surely there could be other ways that the government, via NIEEB, can do to ensure credit flows more freely than taking the first step in supporting the cause of reasonableness by not banking with those banks that are viewed, correctly or otherwise, as hostile to the aspiration of reasonable credit growth. If the government is scared to stand and practice what it believes to be right, who will? Its time therefore that our government practice what it preaches, and indeed the $7 million seed capital injected by the government to kick-start the lender of last resort functionality at the RBZ, though a good step, is a pittance considering bank deposits above $2 billion. If therefore its genuine lack of fiscal space, why doesn’t the Minister of Finance, Hon Biti regulate therefore that banks whose loan-to-deposit ratios fall below a prescribed level remit a certain percentage of their deposits to the RBZ to augment the lender of last resort seed capital pool in a sweeping arrangement reconciled weekly or otherwise?

This will ensure that the economy continues to benefit from the same deposits the banks that are hesitant to lend hold. Policy makers need to be objective and unapologetic for the good cause of the economy that will create jobs and growth. Asked if the government of Britain was not worried by threats by some banks about leaving Britain, Vince Cable had an assuring answer. He said: "We have to make the British economy safe and we can't be blackmailed by constant threats (by banks) to walk away." Even in Australia, after it proposed an excess profit tax of 30% on iron ore and coal miners to benefit from its endowments, protests by BHP Billiton Ltd, Rio Tinto Ltd and Xstrata plc were futile and now they have been reported to have signed agreements in support of the new tax rate.

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.