In the previous article, we talked about how Zimbabwe found itself in the economic and financial dire straits that persist to this day. We also looked the structure of the Zimbabwean economy and how a seemingly robust economic framework failed so badly in the face of challenging economic and political decision-making.
The ThinkZim proposition is apolitical and could be successfully delivered by a solution-focused government. The successful results would not only produce a renaissance but also restore confidence in our country, its people and leadership. There are some parallels to 1930’s America, however, Zimbabwe is not dealing with 30% unemployment but closer to 90% unemployment so the solution may need to be equally unconventional.
The diagram below outlines at a very high- level how we propose that the Zim-dollar be brought back as a functional and viable currency of note.
In brief below we have outlined how the above diagram breaks down:
- The government currently receives an 7% royalty payment from all mining activity. The rules must be revised slightly for High Value Metals also known as PPG (Platinum, Palladium and Gold). The royalty for these metals must be gathered as bullion and stored in a secure public facility.
- When the bullion stock pile of PPG exceeds a certain market valuation Zim-dollar notes of varying denominations will then be produced to a total not exceeding 33 – 45% of the average total valuation of the basket of PPG in stock.
- To protect the fledging currency valuation from unexpected dips and shocks in the metal markets or runs and dumps, a hedge will be taken out to ensure that everyday business can be conducted in a relatively stable financial environment
- Multi-currency in Zimbabwe will continue, however the number of currencies will be reduced to Sterling, USD and ZAR with an objective to reduce still further as time progresses
- The new Zim-dollar can only be allowed to float free of the PPG basket once the following conditions, at a minimum, have been met:
- Positive sustained economic growth indicators are identified.
- There is local and international confidence in the government of the day and the strategic direction they have set the country on.
- There is sufficient confidence in the market that floating the currency will not create a significant shock in the local economy
So what does this all mean?
It means that Zimbabwe goes back to using a financial mechanism akin to the gold standard. The United Kingdom stopped using the gold standard in 1931 and the United States abandoned the system in 1971, but that is where Zimbabwe may find salvation primarily due to the governments lack of economic and financial credibility, both locally and abroad.
The solution of using the PPG is only a stop-gap solution because as mentioned before there are limitations with commodity based currencies. When the gold standard was in use the following limitations were identified by economists who believe that:
- The gold standard acts as a limit on economic growth – As an economy’s productive capacity grows, then so should its money supply. The gold standard requires that money be backed by the physical metal, thus the scarcity of the metal constrains the ability of the economy to produce more capital and grow
- Though our proposition is to use a basket of high value commodities this risk is still applicable. However as miners continue to produce and the amount of cash in circulation is strictly regulated, it should be possible to mitigate against this problem up to the point where the physical size of the PPG reserve makes it difficult to store. (hopefully that point will not be reached too quickly)
- Economic recessions can be largely mitigated by increasing the money supply during economic downturns – Using the gold standard means that the money supply would be determined by the gold supply and hence monetary policy would not be available as a leaver to stabilise the economy.
- The gold standard is often blamed for prolonging the Great Depression, as under the gold standard, central banks could not expand credit at a fast enough rate to offset deflationary forces – this risk would still be applicable. However, one of our rules is that the government never produces currency that equates to more that 45% of the total repository value, this should allow some flexibility and therefore some level of restricted monetary control.
- Although the gold standard brings long-run price stability, it is historically associated with high short-run price volatility. It has been argued by some, that instability in short-term price levels can lead to financial instability as lenders and borrowers become uncertain about the value of debt.
- Through a combination of hedging and under-printing currency, this should create a buffer and therefore mitigate against volatility. To illustrate the point about volatility please see the graphs below:
- Under the gold standard deflation punishes debtors – Real debt burdens therefore rise, causing borrowers to cut spending to service their debts or to default. Lenders become wealthier, but may choose to save some of the additional wealth, reducing GDP.
- Financial institutions both large and small must be actively encouraged to lend thereby forcing the money to circulate in the economy – Additional ideas on dealing with this situation would be welcomed
- The money supply would essentially be determined by the rate of gold production. When gold stocks increase more rapidly than the economy, there is inflation and the reverse is also true.
- This is one of the reasons for not producing currency to the full value of the PPG repository, this should create a buffer and thus provide some mitigation against volatility.
- The gold standard is susceptible to speculative attacks when a government’s financial position appears weak. Conversely, this threat discourages governments from engaging in risky policy
- As the currency value is based on the average value of the PPG in the reserve, this should act as a shock absorber. Further the hedges placed in the market should also provide an additional buffer thereby giving government some freedom to engage in some less risky but not reckless policy making.
- Devaluing a currency under a gold standard would generally produce sharper changes than the smooth declines seen in fiat currencies, depending on the method of devaluation
- As the currency value is based on the average value of the PPGs in reserve, this should act as a shock absorber, further the value of the basket would be tracked against the commodity market prices real-time.
- The gold standard provides practical constraints against the measures that central banks might otherwise use to respond to economic crises. Creation of new money reduces interest rates and thereby increases demand for new lower cost debt, raising the demand for money.
- Zimbabwe needs to get its economy stable so this is a temporary solution, environmental factors allowing. With enough planned flexibility built into the system it will be possible with our system to create some level of new money if required. Furthermore the constraints imposed should allow for more innovative thinking to take place.
Some may look at the challenges detailed above and think why do this?
The fact of the matter is, Zimbabwe cannot wait 20 years for conditions to be ideal in order to start recovering. There is a question of risk appetite, given the uncertainties in the world today. Zimbabwe has what can be comfortably called a “border-line war zone” economy and there is not much between it and total shut-down. By leveraging the God-given assets, the right government can bring things around economically. Acknowledging some of the limitations detailed above, there would still be some financial and economic levers available to allow for the building of a functional economy and currency
The number one reason for adopting the solution proposed here is that unlike Bond Notes this currency would be instantly convertible worldwide and the median basket price would post as a transparent link between the mineral and money markets.
To see how would the economy look take a look at the next episode