Bank of Zambia faces inflation tide

MUTISUNGE ZULU writes THE central bank in Africa’s second largest copper hotspot, Zambia, cut rates by an aggressive 225 basis points to 9.25%, levels last seen in 2012. Amidst a rising inflation environment, Dr. Denny Kalyalya the governor was faced with a very tough call as the Monetary Policy Committee (MPC) prioritized growth over taming inflation in a Covid-19 disease pandemic era.  The Bank of Zambia joins other central banks such as the Bank of Ghana, Bank of Kenya, Central Bank of Nigeria, Reserve Bank of South Africa and Central Bank of Mauritius in a rate decision through the Covid-19 period that has eroded growth momentum. The Bank of Zambia also kept the statutory reserve ratio tied at 9%. Previous rate decision. Previously the Monetary Policy Committee kept rates at 11.5% to allow for the earlier 125bps hike in November to 11.5% in the quest to tame a depreciating currency. However even with tighter monetary policy, the Kwacha extended its losing streak to all-time highs forcing the central bank to hike the statutory reserves 400bps to 9% mopping K1.65billion from the market on the 23 December 2019. This sterilization measure was effective enough to curb a currency slide. Zambia’s market indicators nonetheless reflected fiscal posture given the increased external debt service of circa US$1.7billion and an uptick in dollar demand for agriculture inputs (Farmer Input Support Program – FISP) and petroleum finance which exerted pressure on the exchange rate. Zambia’s risks to growth. In the year 2020, Zambia carried forward a fair share of energy risks as fuel prices were hiked by 11% on average while the Energy Regulation Board – ERB approved a ZESCO application to hike tariffs 106% effective January 2020. These two energy price adjustments were announced on Boxing day setting the inflation tone for 2020. Energy bottlenecks persisted as dam levels sharply receded below 15% at the Kariba manifesting in a deficit of 810MW. The deficit was wider at 890MW but for Maamba geothermal plant that fired back an additional 150MW into the grid after its generators were down for a while pending service easing some of the power pressure. The year 2019 closed with inflation of 11.7%. COVID erodes growth. Earlier in the year, the Bank of Zambia in the 1H20 monetary policy statement, committed to taming inflation within the 6-8% band in the 2H20 but for the black swan event, Covid-19 that has caused a revision in prioritization efforts. Growth forecast for Zambia has so far been revised twice, the first being the Ministry of Finance revision from targeted 3.2% with a budget deficit of 6.5% to below 2% following actualizing risks to growth given deteriorating fiscal and credit risk position. With deepening Covid-19 effects, escalating credit risks, the IMF trimmed Zambia’s growth to negative in recession by 3.5%. Disease pandemic effects have and are forecast to erode private sector momentum with Zambia recording the steepest slump since the Purchasing Managers Index – PMI started being tracked. April readings headlined 37.3 from 44.6 (Mar 20) from 46.7 (Dec 19) with three persistent themes namely, lack of liquidity, an elevated cost environment and currency weakness pushing input prices to record highs. However, the Bank of Zambia, despite having very little scope for expansionary monetary policy, exceptionally intervened in a stimulus package priced at 100bps above benchmark interest rate (12.5% then) providing a credit life line to commercial banks in a 3-5 years K10 billion Medium Term Emergency Refinance Facility while relaxing provisioning and capital requirements. This move was targeted at absorbing Covid-19 credit shocks by injecting liquidity into the system to allow for stimulation of domestic credit. The Bank of Zambia also committed to being in Open Market Operations to manage liquidity conditions and tame inflation as and when it brews. Fiscal risks remain high. Clearly fiscal risks remain amplified by Covid-19 effects on key sectors such as agriculture, manufacturing and mining while Zambia’s credit rating slid deeper in junk by all three international rating agencies – Standards & Poor’s, Moody’s and Fitch making it difficult to access refinance on the international capital markets for its dollar bonds that mature in 2022, 2024 and 2027. Zambia has US$3billion worth of Eurobonds whose credit spreads have blown out to levels that pricing a default. Zambia’s credit default spreads range between 3,950-4,755 basis points above US treasuries, the worst performing dollar bonds in the emerging market space. Calls for debt relief have increased among African nations, Zambia inclusive. African Finance Ministers have joined forces through the African Union to engage bilateral creditors for possible relief as fiscal strains and budget balancing bites.  Zambia’s has formally written to the IMF for Covid-19 emergency relief while other co-operating partners such as the European Union, German government, the African Development Bank and World Bank have assisted to some extent in aggregated north of US$200million in grants. Zambia’s debt repayments total roughly one and half yards in dollars (US$1.5billion) which without debt relief could be strenuous for the economy this year. Denny Kalyalya’s tone. Wednesday 20 May rate cut signals the central bank’s commitment to spurring growth in economic hardship to reinforce the April stimulus measures. Firstly, it is about a dry point of construction that the stimulus is inflationary and will not support the exchange rate because the more liquidity the system has, the more purchasing power and demand for dollars for import purposes as the economy kick starts. This reflects the growth prioritisation skew of the central bank at the expense of the other macro’s which it still is alive to. The Monetary Policy Committee is alive to inflation risks and the currency vulnerability which the BOZ will highly likely address through open money operations and effecting of the 15 pips crawling peg strategy in constrained environment proposed in the revised Interbank Foreign Exchange Market -IFEM framework. The 225bps rate cut eases the repayment burden for loan payments for borrowers while simultaneously repricing the central stimulus package to 10.25% from 12.5%. With rising non-performing loans at 10.3% against the prudential limit of 10%, the central banks priority is clearly growth in a suppressed environment. Monetary and the Fiscal policy remain dislocated but for once the two have common ground, a social cause, in a disease pandemic era, which is to prevent the economy from receding sharply. Dr Denny Kalyalya Mutisunge Zulu is a Financial Analyst serving as National Secretary for the Economics Association of Zambia. The Sun