Zambian Kwacha Exchange rate Analysed by Kampamba Shula

Rising food and import costs prompted the Bank of Zambia to raise interest rates and increase the reserve ratios for commercial banks in the past four months, undermining economic growth

Zambia’s central bank plans to sell more dollars to bolster the second worst-performing currency in Africa and curb inflation, officials said. The kwacha, which has slumped 9.6 percent against the dollar in the past six months, needs to be at a “more realistic” level, Governor Michael Gondwe. The Bank of Zambia has already reduced foreign-currency reserves by $36 million this year to support the local unit.

Rising food and import costs prompted the Bank of Zambia to raise interest rates and increase the reserve ratios for commercial banks in the past four months, undermining economic growth. “The exchange rate needs to be right, because if it gets out of hand it has an impact on inflation,” Gondwe said. President Michael Sata has “legitimate concerns” because of the weaker currency and rising costs in the economy. The kwacha’s slide is the worst after Malawi’s currency in the past six months. Finance Minister Alexander Chikwanda said the weaker currency may lead to an inflation spiral and boost the government’s debt costs. The kwacha should trade at 5 to 5.10 a dollar to hold back inflation, he said.

‘Small Advantage’

The depreciation has “a small advantage to the exporters but a huge disadvantage to the economy as we import and service external commitments,” Chikwanda told reporters in Solwezi, near the border with Democratic Republic of Congo. Inflation in Zambia slowed for the first time in six months in January to 7 percent as the government sold stocks of corn, the staple food, to millers at a lower price that it was bought.

Dollar Shortage

The kwacha’s slide is mainly due to a lack of liquidity in the foreign-currency market. Zambia’s current-account deficit of $211 million last year, compared with surpluses in the previous three years, has contributed to the weaker kwacha.

According to Stanley Tamele, head of global markets at Standard Chartered Plc’s Zambian unit the shortage of foreign-currency may be due to mining companies, which account for about 75 percent of Zambia’s export earnings, withholding dollars. (Bloomberg)

Economeka Analysis

The kwacha had been steadily losing ground against the dollar (See Graph above) during the Month of January. This may have been due to Mining companies withholding Dollars possibly for reason that they were not sure how the Kwacha would trade with the Dollar after the rebasing had begun. They may have possibly been waiting to see some clarity in the exchange rate which was not positive as the kwacha kept losing ground against the Dollar during the month of January (see Graph).

As can be seen from the graph the kwacha reached a high of 5.4 which caught the attention of the policy makers who were not ready to see it go higher. Some sort of Dollar injection into the market may have triggered its decline in the recent days(See Graph).

The consequences of a Weak Kwacha come in two forms positive and negative. The problem is the negatives outweigh the positives. The positive is that exporters have an advantage compared to other global competitors as their products will be cheaper on the global market. The negatives are that imports of fuel and manufactured goods become more expensive for Zambia.

Declining export prices (lower copper demand led to lower prices) contrasted with rising import prices and manufactured goods, lead to a worsening of terms of trade. Zambia recorded its first account deficit in 3 years last year.

Given that the Honorable minister would like the Kwacha trading at 5 to 5.1 to prevent Inflation. It would be prudent to align estimations going forward around that range.

Economeka’s estimations remain at 5.1 to 5.3 after central Bank intervention and possibly 5 to 5.2 after Mining companies are comfortable with stability of the Kwacha.