After the government brought back the Zimbabwe dollar on 24 June 2019, ending the ten-year multi-currency regime, the Reserve Bank of Zimbabwe (RBZ) issued a press statement announcing a number of policy measures.
One of these measures was a directive to all banks to transfer to the RBZ all the Zimbabwe dollars they are holding as counterpart funds for the foreign currency historical or legacy debt owed to creditors. This is because the RBZ is assuming this legacy debt on behalf of the government.
The total legacy debt is estimated at ZWL$1.2 billion. This means converted at the rate of 1:1 the government is assuming a debt of USD1.2 billion. The government believes this measure will “mop up” excess liquidity in the market.
I was among those who did not fully understand the meaning of this policy measure, let alone appreciate its implications. Most newspapers simply regurgitated the RBZ statement but did not explain what it meant and its implications. What, for example, is “excess liquidity” and why is it a problem? Why is it important to “mop it up”? How did we get to that point of legacy debt?
These things made sense to an audience that is learned in economics but to the layperson it remained cryptic. So, I set out to make sense of it. The first part of this BSR examines this issue.
The second part deals with a separate issue: the reclassification of Zimbabwe from low income status to low-middle income status by the World Bank. What does it mean and what are the possible implications? Economic literacy, like political literacy is important for informed public discourse.
Understanding Legacy Debt
Let us start with the basic questions: What is foreign currency historical/legacy debt? Where did it come from? And why is it called legacy debt?
As the name implies, legacy debt is historical debt, which has accrued over a period of time. It is money that is owed to creditors for services rendered or products sold and has accumulated unpaid over some time - arrears in common parlance.
In the present case, foreign currency legacy debt represents foreign currency debts that have accrued to foreign creditors over a period of time. A basic example is where a company has imported products from a foreign supplier but the debt has not been paid because there is a lack of foreign currency. Due to exchange control rules, any foreign currency payments must be authorised by the RBZ. However, the RBZ has not been authorising payments to foreign suppliers, leaving the local importers heavily indebted.
This is why at the end of May, the Minister of Energy, Fortune Chasi revealed that there was about USD200 million legacy debt owed to foreign fuel suppliers. There is also legacy debt owed for electricity imports from South Africa and Mozambique. The Confederation of Zimbabwe Industries also complained that the lack of a settlement plan for legacy debt was affecting its members’ ability to purchase imports from foreign suppliers.
Foreign suppliers’ money is caught up in the financial system which is controlled by the RBZ, which, in turn, is only allocating foreign currency to a few importers on a priority basis. The result is a decline in imports, which could lead to scarcity of goods and eventually shortages.
Another example of legacy debt is money owed to foreign airlines. Foreign airlines are allowed to charge fares in foreign currency. The fares are deposited in a local bank account for the foreign airline. But when the airline wants to repatriate the money, it cannot do so without RBZ approval. In early 2018, it was revealed that regional airline, Fastjet was facing serious cash-flow problems and struggling to meet its bills with nearly USD2 million stuck in Zimbabwe’s financial system due to foreign currency challenges.
Fastjet may have made the news but it is by no means the only airline affected in this way. In the Monetary Policy Statement issued in February 2019, the RBZ acknowledged the existence of this legacy debt referring to “all foreign liabilities or legacy debts due to suppliers and service providers such as the International Air Transport Association (IATA), declared dividends, etc.” and stating that they needed special treatment.
Some might ask what happened to the foreign currency that was paid by an airline’s customers. As already indicated as a general rule all foreign payments must be authorised by the RBZ. This gives the RBZ control over allocation of foreign currency. The foreign currency was then diverted and used for so-called priority imports such as fuel, electricity and grain. This left airlines and other suppliers in the lurch, unable to access their money.
Another example is dividends due to foreign shareholders. Investors on the Zimbabwe Stock Exchange buy shares in listed companies such as Old Mutual, Econet and Delta Beverages. They make their money from selling the shares when prices rise or they can wait for dividends when declared at the end of the financial year.
To repatriate their dividends, foreign shareholders (like the foreign airline in the above example) need the RBZ to approve. However, just like the foreign airline, the foreign shareholder’s dividends are stuck at the bank because the RBZ is not approving the repatriation, choosing to use foreign currency to buy essentials such as fuel and grain. The unpaid dividends represent historical/legacy debt.
If the above examples haven’t made it clear yet, here is a final example of legacy debt. These are repayments of loans taken from foreign lenders - usually referred to as offshore loans. They must be repaid in foreign currency. One can think of loans obtained from the Cairo-based Afrexim Bank. They have not been donating money to Zimbabwe. The loans must be repaid but since there is no foreign currency, they are legacy debts. Zimbabwe has long had outstanding legacy debts to international financial institutions and creditor such as the IMF, World Bank, African Development Bank, the Paris Club, China and various other countries.
This, therefore, is the foreign currency historical/legacy debt.
What are Counterpart Funds?
Meanwhile, without the foreign currency, banks are left holding the equivalent amounts of money owed in local currency (RTGS dollars). These are called counterpart funds. The government believes the total amount of these counterpart funds is estimated at ZWL1.2 billion.
But foreign creditors are not interested in a local currency which has no convertibility beyond Zimbabwe’s borders. If they are really desperate and they are prepared to take a hit, they could withdraw the local currency and go on to buy foreign currency on the black market. They would make losses but they might consider it better to take a hit than have their money stuck indefinitely in an unsteady financial system. Yet the fear for the authorities is that this practice would fuel the black market.
Since it is now assuming the legacy debt, the RBZ is asking banks holding these counterpart funds to transfer them to its coffers. This will, according to the RBZ, “mop up” excess liquidity which is represented by these counterpart funds. The government will through the RBZ now have the obligation to settle the legacy debts to foreign creditors.
Why Is the Government doing this?
The government believes there is too much liquidity in the market and it wants to control money supply in the market in order to support the new Zimbabwe dollar. The view is that too much money in the market (liquidity) impacts negatively on the economy as it feeds retrogressive behaviour. This is the $1.2 billion which is held by banks. This money has not been sitting idly in the banks. Banks don’t just keep money for the sake of it. They make profits by lending to each other and to the market. As long as they have it on their books, they will make use of it to earn a profit.
Low interest rates also meant it was cheaper for corporates and individuals to borrow from banks and engage in speculative activities - such as trading in the parallel market or buying and selling shares on the Zimbabwe Stock Exchange, realising good profits and repaying the loan and starting over again.
So the government thought this excess liquidity was being abused for speculative purposes. The policy measure aims to “mop it up” and the government hopes that this will control the supply of money in the market and ensure that credit is available for those performing real economic activities, not speculators.
However, the government also knows it is the cause of the banks’ and companies’ failure to remit deposits and dividends to foreign suppliers and shareholders. Hence, it is assuming these debts as legacy debt.
Since they were incurred at the rate of 1:1, it is taking over the debt at the same rate. If it used the current Interbank Market rate, the foreign creditors would be significantly prejudiced. Here’s the math: at the rate of 1:1, the ZWL1.2 billion is obviously USD1.2 billion. By contrast at the Interbank Market rate of 1:7.8 the ZWL1.2 billion would be reduced to around USD154 million, significantly less than the original debt. Therefore, assuming the government will pay the legacy debt, foreign creditors stand to avoid exchange rate losses.
One way to look at this is that the government takeover of legacy debt is actually a bailout. Foreign creditors were exposed to the foreign exchange losses after the change from multi-currency to mono-currency. As shown in the above example, the legacy debt would be reduced from USD1.2 billion to just USD154 million. By taking over the legacy debt at 1:1 instead of 1:7.8, the government is shielding creditors and banks who would be exposed to litigation. But who pays for this bailout?
Let’s look at the math: By taking over the legacy debt at the rate of 1:1, the government is transferring foreign exchange rate losses from creditors and banks to itself. As we observed, at the rate of 1:1, the USD1.2 billion legacy debt is ZWL1.2 billion. By contrast, at the Interbank Market Rate of 1:7.8, the debt balloons from ZWL1.2 billion to ZWL9.4 billion. In USD terms, the government is paying USD46 million more than it would be paying at the Interbank rate cushioning foreign creditors and banks.
So we go back to that important question. Who is carrying these exchange rate losses? Who is paying the bailout? Since the RBZ is taking over the debt on behalf of the government, the burden will eventually fall upon the taxpayer. Like all debt assumptions of the past, it is the taxpayer who ends up carrying the cost.
There is also a strong objection to debt assumption that is taking place without the authority of Parliament. In the past, at least Minister or Finance Patrick Chinamasa had the decency to carry out debt assumption under legislation, the RBZ Debt Assumption Act. In this case debt assumption is being done outside Parliament and this raises issues of legality and the rule of law. The Constitution requires Parliament to play a role whenever national debt is concerned.
This pattern of disregard for Parliament has become a common feature under the current administration. These are the issues that the opposition must make noise about - the systematic undermining of Parliament.
Is the bailout fair?
Another argument against a bailout is that foreign creditors must take the risks that come with the market in which they have freely chosen to participate. They know the Zimbabwean environment and they chose to take a risk, which they must carry. There is no need to burden the already impoverished taxpayer.
A counter argument is that protecting foreign creditors with this bailout is a necessary burden to carry in order to reduce the perception of risk. It does not help the taxpayer for foreign creditors to take losses from government policies because they will simply respond by switching off and taking their business elsewhere where they are treated fairly. In the long run the taxpayer suffers if fuel suppliers, electricity suppliers and other critical suppliers close off their lines of credit.
So the taxpayer is between a rock and a hard place - they either absorb the foreign exchange losses or suffer the consequences of exposing foreign suppliers to exchange rate losses. But the taxpayer is the one who gives the government the political mandate to govern. They can and should withdraw this mandate as punishment if they are dissatisfied with the government’s performance.
This is particularly more acute when no one compensated ordinary taxpayers for their own losses. The exchange rate has essentially eroded their incomes, and whatever little deposits they had in banks have also depreciated in value.
But there is another critical question: how will the government fund the payment to foreign creditors?
There is a view that what’s happening is fiscal imprudence. It solves a problem now but creates more in future. Using historical path dependency, the government might use Treasury Bills as it has done before. This is not the first time that the government has faced legacy debt obligations. In the past, it paid similar creditors such as Meikles by issuing TBs. In the process it will be doing what it undertook not to do: printing money by other means. That is because these TBs have to be monetised at some point, as happened in 2016 when bond notes were introduced.
It might also seek new credit facilities to pay off debts. It’s like taking from Peter to pay Paul, thereby generating new debts that will still have to be paid. To be sure, there is nothing inherently wrong with borrowing as long as borrower funds are used for long term investment. If for example money is borrowed in order to build a power generation plant, it will benefit future generations. They too will pay their share through taxes which is not unfair. But if it is merely for consumption here and now, cushioning elites from losses, without benefits accruing in the long term, it is unfair to saddle future generations with such debt.
In a nutshell
I hope this has explained the meaning of legacy debt, which in ordinary parlance are simply arrears. There is a lot of legacy debt owed to foreign suppliers. It has accumulated because of shortages of foreign currency. The foreign currency that is coming in is being channeled by the government to import essentials such as fuel and medical drugs.
The government is now taking over the legacy debt. But the terms on which it is assuming the legacy debt favour foreign suppliers by cushioning them from exchange rate losses. The cost of doing so falls upon the Zimbabwean taxpayer. There is a strong view that this is fiscally imprudent.
The long and short of it is the country needs to generate more foreign currency. That requires a rise in productivity. The answer lies in: Production Production Production. And Exports. Without these critical sources, it’s a never-ending vicious cycle.
Zimbabwe’s Graduation - The Good and the Bad and perhaps the Ugly
The World Bank announced this week that Zimbabwe has graduated from a low income country to a low-middle income country. But what does it really mean and what are the implications?
The news of Zimbabwe’s reclassification has had a mixed reception among Zimbabweans. It was a celebrated in some circles while others greeted the news with a mixture of disbelief, skepticism and disdain.
The former group see it as an important graduation and an affirmation by a third party that the country is making progress on the economic front. The latter group sees a mismatch between the reclassification and the current economic predicament which for many is only worsening. They see no real value in the graduation which is not reflects by circumstances on the ground.
Both views attract sympathy. More important however and not fully captured in the sentiments is a robust examination of the idea of classification and its implications. My purpose here is to shed some light into the technique at play with the hope that it might inform debate and understanding.
The classification of countries is part of a technique of global governance called governance by indicators. Such indicators convert raw and complex data into categories, rankings and league tables that provide a general view on performance on general or specific matters.
These exercises are performed by generators of indicators which include institutions and experts. They arrogate to themselves on the basis of their expertise and resources immense power to convert raw data and create classifications. Of particular interest in this case is the classification of countries.
The particular indicator in this case is generated by the World Bank. It categorises countries in terms of the Gross National Income per capita, sowing whether a country is low income; low-middle income; middle income or high income. It measures the condition of a country according to the average levels of income in its population.
There is a plethora of other indicators in the world of global governance. Examples are the Rule of Law Index, which categories countries in accordance with how they observe the rule of law. There is the Human Development Index which measures development in individual countries. There is also the Ease of Doing Business Index which measures the ease with which business is conducted in each country. Some classification is in terms of a country’s level of debt - hence the category of Highly Indebted Poor Countries.
There is also categorisation in terms of development, hence the existence of Least Developed Countries. Some indicators are generated by non-governmental organisations hence Transparency International has a Corruption Index which measures levels of corruption in each country.
As stated, these indicators are generated by various actors. It includes international organisations like the United Nations or international financial institutions such as the World Bank. It could be international NGOs, such as the Mo Ibrahim Foundation. The methods used for classifications vary depending on the generator of the indicator and its agenda and purpose of the indicator. Naturally their political philosophy plays an important role, hence the Ease of Doing Business Index is heavily tilted in favour of capital and has a strong neo-liberal bias.
Indicators serve a number of purposes and their implications on countries, their policies and populations may be significant. If a country wants to score highly on the Ease of Doing Business Index it must naturally adhere to the core test of new-liberal capitalism - respect for property rights, lower taxes, lax labour laws, and limits on state intervention in business, etc.
High scores on indicators are a matter of national pride. It carries some prestige for a country to score well and have a higher ranking. It is not surprising therefore that some people have celebrated Zimbabwe’s reclassification as a low -middle income country, a step up from low income country status.
Indicators may also influence decisions of investors. They look to indicators as a guide in assessing country risk. Therefore, a country that scores highly on Ease of Doing Business might fare better on attracting foreign investment than a country with a low score.
Another implication is that indicators affect the decisions of aid agencies and lenders. In other words, they are tools used in the allocation of resources. Counties that are classified as LDCs or low-income countries may be eligible for more aid and development assistance compared to countries higher up the ladder. Those who offer soft loans and development assistance will focus more on low income countries.
To that extent, graduating to a higher category does not always work positively for a poor country that’s looking for soft loans, aid and other development assistance. In this regard, national pride can misguidedly stand in the way of cheaper facilities for a struggling country.
Some countries use the classifications as tools for advocacy and lobbying for development assistance. It’s not always beneficial to graduate from being a low-income country if that will limit opportunities for lobbying for concessions and assistance. For example countries that accepted classification as Highly Indebted Poor Countries were eligible for debt write-offs. Those that resisted, like Zimbabwe did not get this benefit, even though it could have easily qualified as a highly indebted poor country. Pride stood in the way of concessions that could have eliminated the debt burden.
Unfortunately those that benefited, like Zambia found themselves falling into the same debt-trap just a few years later, this time to China. Zambia’s delinquency notwithstanding, being reclassified as a non low income country might give the impression that the country is no longer in need of international aid and soft loans from programs such as the World Bank’s International Development Assistance facility. Indeed, some countries which have been recommended for graduation from the list of Least Developed Countries have deliberately delayed the process or sought deferment for fear of losing the benefits that come with classification as an LDC.
One problem with country classifications is that there are now so many of them that a single country can be found in multiple categories at any given time. This makes it hard to build a proper and accurate narrative of its status. The difference lies in the criteria chosen by each generator of indicators. So, a country might celebrate an upgrade in one set of classification while moaning about an unfavourable score in another classification.
Why is there a growth of multiple indicators? It has a lot to do with the role of institutions and experts that work within them. They have to justify their relevance and this often manifests in a race to produce classifications. Interestingly while such experts and institutions have so much power to influence the allocation of resources through the indicators they generate, they lack one fundamental quality: democratic legitimacy. Despite being unelected, they nonetheless possess a huge amount of power and influence in how scarce resources are allocated using indicators. This is because both multilateral and bilateral donors place value on these classifications in the allocation of development assistance and aid.
Country classifications may also influence how methods of support are deployed. For example, a rich country may offer preferential market access to low income countries and once a country “graduates” from that level it will lose such preferential treatment. This is no cause for celebration especially for a poor country trying hard to escape poverty for the majority of its population.
Another criticism is that country classifications give a general picture but obfuscate the diversity within countries. This leads to misleading impressions which do not reveal gross inequalities within nations. Also, there is often great diversity among countries within a single category which is not only generalisation but also unhelpful. There is also great diversity among countries within a single group. This detracts from the relevance of such classifications.
So this is the intellectual context in which the new classification of Zimbabwe from a low income country to a low-middle income country must be assessed. Whether or not it is a good thing depends on various factors. Those who place a high premium on national pride are happy with the graduation.
However, it is important to look beyond aesthetics and national pride and to consider the economic implications of the reclassification. Will it affect the country’s eligibility for development assistance such as soft loans? Will it affect the way donors allocate resources to the country to alleviate poverty and help the most vulnerable? Will it impact the way investors perceive the country? Is the classification properly and truly reflective of the population’s circumstances or does it obfuscate a reality of gross inequality and poverty? Does it encourage the government to do better or does it lead to complacency and a false sense of comfort?
These are some of the critical questions that need consideration before jumping in celebration or condemnation. It is a matter of national pride and prestige to graduate from the nether rungs but it would be foolhardy to overlook the costs that also come with such “graduation”.
A decade ago we refused to accept that we were a highly indebted country which needed debt relief because our leadership was too proud. But pride did not take us anywhere. There is little to celebrate that the World Bank thinks we are no longer a low income country when in reality the bulk of our population is living in poverty.
One can only hope that the reclassification does not exclude us from schemes and resources that would help our people escape extreme poverty. Far more important than indicators generated outside is the sense of confidence and fulfilment by Zimbabweans. Their affirmation that they are not low income earners is far more valuable and significant.
I would like to thank a number of people who helped e put this together. I had to rely on their economic knowledge, mostly to confirm my thought. Economist Brains Muchemwa was one of them – than you ever so much, my brother. I have respected the wishes of others wish to remain anonymous but I acknowledge their assistance. Everything in this article is, however, my responsibility and none should be attached to those who assisted me in crafting this BSR.