Zambian Foreign Exchange rate analysis, SI 33 & 55, Foreign Exchange Policy Review by Kampamba Shula

Zambian Kwacha/ US Dollar Exchange rate analysis
To say the first quarter of 2014 has been a volatile period for the Zambian Kwacha exchange rate with the US Dollar would be an understatement. It has been a most unpleasant period. By February 2014 the currency of Africa’s biggest copper producer slid to 5.78 per dollar, its lowest level since Bloomberg began compiling records in 1994 (Hill, 2014). The kwacha was at the time the continent’s worst performer after the Gambian dalasi.
History
Before we can explain where we are going we have to understand where we are coming from. This raises the need for a short review of the Forex market in Zambia. The exchange-rate system in Zambia is broadly characterised by both fixed and floating exchange-rate policies. From independence in 1964 to 1982, and from 1987 to 1991, the monetary authorities adopted a fixed exchange-rate regime. This regime was sustained by an occasional adjustment of the exchange-rate system and other measures such as the issuing of import licences instead of official interventions in the exchange-rate market (Maenad 2001). Between 1983 and 1985, the Zambian kwacha was pegged to a basket of its major trading partners’ currencies with a monthly crawl of one per cent. The crawling peg was later revised to one and a half per cent due to the depressed economic conditions at that time. Towards the end of 1985, owing to conventional and political factors, the authorities introduced a floating exchange-rate regime whereby the central bank (Bank of Zambia) auctioned off foreign currency with the aim that the bidding system would guide the exchange rate (Chirpily 2009). In 1992, the authorities abolished this system and a freely floating exchange-rate mechanism was introduced. The new system allowed commercial banks to trade foreign currency with the Bank of Zambia (BOZ) three times a week. This was later amended from three times a week to daily, in order to control the volatility in the exchange rate. Despite all these measures, Zambia, like many other commodity- exporting countries, witnessed an increase in exchange-rate volatility. As a result, a broad-based interbank foreign-exchange market (IFEM) system was introduced in July 2003 to address the weaknesses perceived in the previous exchange-rate regimes (Chirpily 2009). According to the African Development Bank (ADB) (2007), the introduction of IFEM was considered an important step in improving efficiency in the market. This allowed commercial banks and other licensed agents to bid and offer foreign exchange on the interbank market, and corporates and individuals to sell and buy foreign exchange from commercial banks. The Zambian kwacha is freely tradable, and the liberalisation of the financial sector has attracted offshore investors, speculators and other traders.
Exchange Rate Policy Episodes in Zambia: 1964 – 2007:
 the Fixed Exchange Rate Regime (1964 – 1982)
 The Crawling Peg (1983 – 1985)
 The Floating Exchange Rate Regime (1985 – 1987)
 The Fixed Exchange Rate Regime Again (1987 – 1991)
 Flexible Exchange Rate Again (1992 - 2007)
Prior to 1994, Zambia operated a fixed exchange rate system.In 1994, the foreign exchange market was liberalized to achieve relative stability and prevent overvaluation of the Kwacha (Kalyalya, 2007);
 Exchange controls were abolished;
 Foreign currency deposits were introduced;
 Bureau de change system introduced;
 In 1996, both current and capital account restrictions were removed; and
 In 2003, the broad –based inter-bank foreign exchange market system was introduced to promote more transparent price discovery and enhance liquidity in the foreign exchange market.
Exchange rate and the allocation of foreign exchange were permitted to be market determined. By March  1993 most foreign exchange controls on current transactions had been removed and in  February 1994 the capital account of the foreign payment systems was liberalized (McCulloch, 2000).In 1995, the Bank of Zambia allowed commercial banks to hold foreign currency deposits. In 1996 the final phase of liberalization of the foreign exchange market was implemented with Zambia Consolidated Copper Mines (ZCCM) being allowed to retain all its foreign currency earnings and supply foreign exchange to the market directly (Kani, 1996 ). Prior to this, ZCCM was required to sell an agreed percentage to the Bank of Zambia which then supplied foreign exchange to the commercial banks through the foreign exchange auctions.

Modern Day
Global Economy and Emerging Markets

The worst sell off in emerging-market currencies in five years is beginning to reveal the extent of the fallout from the Federal Reserve’s tapering of monetary stimulus, compounded by political and financial instability (Bloomberg, 2014).
A confluence of factors caused the emerging market panic. The first is the pull-back of stimulus in the U.S. Since September 2012, the Federal Reserve has pumped massive amounts of liquidity ($85 billion at its highest) every month into the global market in what has come to be known as “quantitative easing.” In December 2013, outgoing Fed Chairman Ben Bernanke announced the beginning of tapering – a $10 billion reduction in monthly bond buying. On January 29th, the Fed announced that it would reduce its bond buying an additional $10 billion, to $65 billion a month. As of April 2014; the new chair of the Federal Reserve Janet Yellen continued the tapering. The central bank on April 30 pushed ahead with its plan to gradually wind down its asset-purchase program in spite of news earlier in the day that growth ground to a virtual halt in the first quarter. Saying the economy is rebounding, the Federal Open Market Committee voted unanimously to reduce its bond purchases by another $10 billion a month, to $45 billion.
Much of the capital that the Fed was infusing into the market through its bond buying flowed to emerging markets. With the Fed tapering off quantitative easing, that liquidity is drying up. In simple terms, no more easy money. And that means that growth in emerging markets will, in all likelihood, be both more expensive, and slower (Forbes, 2014).
Both the tapering of stimulus in the U.S. and weakening of emerging market economies lead to currency volatility (clearly), which leads to panic, which leads to more volatility. A vicious cycle.

Zambian Kwacha

The Kwacha recently hit a historical-low against the United States dollar for the first time after the 2008-09 global financial crises, as the foreign exchange market continued to witness low greenback supply. Similarly, Standard Chartered Bank says increased demand for the dollar resulted in the weakening of the Kwacha”. There was a sizeable mismatch between demand streaming mainly from local corporates and real money market players as compared to the current level of supply for the dollar which is likely to see the currency remain under pressure for the time being,” the bank said in its daily brief (Daily Mail, 2014).
Mining companies, the source of almost 80 percent of Zambia’s foreign earnings, are the biggest suppliers of dollars, the currency in which copper is globally traded. Higher demand for the U.S. currency from the manufacturing, telecommunications and energy industries were being countered with lower supply from copper producers.
Bank of Zambia Official Position
In Line with Government policy, The Bank of Zambia (BOZ) indicated it was going to pursue a flexible exchange rate policy.BOZ explained that the depreciation was trend in the exchange rate was due to a combination of domestic and international market developments (Bank of Zambia, 2014).
The consistent economic growth that Zambia has recorded over the years led to a steady increase in imports, particularly capital goods critical for sustaining such growth, although exports continued to show impressive growth, demand for imports had relatively been stronger, thereby contributing overtime to the exchange rate depreciation (Bank of Zambia, 2014).
In addition, Zambia’s increased integration with the global economy, achieved through liberalising its external current and capital accounts transactions implied that international developments had a significant impact on the exchange rate.BOZ highlighted the quantitative easing by the US federal Reserve as well as the price of copper, Zambia’s major export earner. The impact was further compounded by slower portfolio investment inflows which played an important role in financing the country’s current account deficit (Bank of Zambia, 2014).
The Bank of Zambia indicated that the exchange rate with respect to the US Dollar was undergoing a “random walk”
Random Walk
Theoretical framework
The Efficient Market Hypothesis (EMH) states that in an efficient market, asset prices fully reflect all available information about the asset, and investors therefore cannot consistently earn abnormal returns (Pierson, Bird, Brown & Howard 1995). In its weak form variant, the EMH implies that prices follow random-walk behaviour in which successive price changes have zero correlation (Trippy & Lee 1996). This weak form variant of the EMH is known as the random-walk hypothesis (Pierson et al. 1995).


Practical Application
The random-walk hypothesis in foreign-exchange rates market is one of the most researched areas, particularly in developed economies. However, emerging markets in sub-Saharan Africa have received little attention in this regard. A study by (D. Mbululu, 2013) applies Lo and Mack inlay’s (1988) conventional variance ratio test and Wright’s (2000) non-parametric ranks- and signs-based variance ratio tests to examine the validity of the random-walk hypothesis in the Zambian foreign-exchange market. The study utilised daily nominal United States dollar/Zambian kwacha (USD/ZMK) exchange-rate returns for data from August 2003 to December 2012. Both types of variance ratio tests reject the random-walk hypothesis over the data span. The implication is that technical and fundamental analysis can help traders and other investors to earn higher-than-average market returns.
According to Ajani and Karameros (1996), evidence against random walk hypothesis provides support for the classical monetary models of exchange rates, which hold Purchasing Power Parity as the long-run equilibrium model. From 2010 onwards, the Zambian foreign- exchange market has received considerable interest from technical analysts. Traders from a number of banks have undergone technical-analysis training to acquire the skills needed to benefit from reading foreign-exchange trade volumes and price movements. The usefulness of this has remained debatable, but evidence lends support to technical analysis. The relatively less-developed foreign-exchange market in Zambia lends support against the random walk hypothesis as it is prone to huge swings and spikes exacerbated by the lack of foreign-exchange controls.
An understanding of exchange-rate behaviour is important in formulating policies aimed at attaining macroeconomic stability in an economy, as exchange- rate uncertainty is certain to disturb set macroeconomic targets. Moreover, currency trading has become a huge source of revenue for the banking sector in Zambia. Understanding exchange-rate movements will therefore not only help in shaping macroeconomic policy, but also affect other foreign-exchange market participants such as currency traders and speculators.
Statutory Instruments
Government put in place Statutory Instrument No. 55 of 2013 and Statutory Instrument No. 33 of 2012. These regulations were passed principally to support the implementation of monetary policy.
SI 33
Finance Minister Alexander Chikwanda signed Statutory Instrument (SI) number 33 of 2012 on May 7, 2012 which came into effect on May 18 2012, prohibiting the quoting and pricing of goods and services in foreign currency.
SI55
Government introduced SI55 in July 2013. It empowered the Bank of Zambia (BOZ) to monitor currency inflows, outflows and international transactions and regulate charges in the financial sector. BoZ worked with financial service providers, ZDA and ZRA to collect specified documents from importers and exporters above a specified threshold. Persons making certain remittances and those contracting external loans were compelled to submit these to ZRA. Periodic monthly returns have had to be submitted by financial service providers to BOZ.
Both Statutory Instruments have since been removed, but let us address some of their benefits as well as some of the challenges incurred in their execution.
The challenge with SI 33 was that it explicitly made trading in Dollars illegal with an imprisonment of 10 years. This proved problematic for several reasons but mainly it removed free will between two parties. If both the buyer and seller agree to trade in Dollars there is no reason to dispute the trade. But if the seller quotes in Dollars and the buyer refuses to buy in Dollars, a sentence of imprisonment is not the best way to go about it.
SI 33 was otherwise a logical instrument but again, it was introduced without stakeholder consultation so from the onset, some stakeholders were against it and were looking to see it fail. Even if the recent Kwacha depreciation was not caused by SI 33, stakeholders were quick to blame it.
One of the challenges of SI 55 was the amount of paperwork and disclosure requirements needed to send money out of the country. The fact that SI 55 was introduced without stakeholder consultation increased the gap in understanding its requirements. To put it simply, SI 55 is a logical instrument but because it was introduced in rash manner and given public perception of certain government policies, some stakeholders were against it from the onset, even if its intentions were sincere. It created an incentive for some stakeholders to circumvent it.
It is here that SI 55 intended to use the high US dollar revenue from the mines to briefly flow through Zambia’s money markets before being externalised. Thus it assumed as observed in SI 33, that the increased US dollar inflows under SI 55, would create a sustainable Kwacha appreciation. However, the reality on the ground saw the Kwacha fall as SI 55 did not automatically transfer the mine US dollar inflows onto the market, but into local commercial bank accounts, owned by the mines, awaiting authorisation, under SI 55, to be exported. Naturally, local commercial banks moonlighted on these growing mountain of US dollars by lending the funds to foreign banks in overnight facilities, against the back drop of a global US dollar shortage as the US Federal Reserve Bank reined in its Quantitative Easing Policy. To this, the Kwacha fell as interest rates domestically failed to move upwards to counteract the value mismatch (Chanda, 2014).
There was also some public opinion that SI 55 prevented the entry of Foreign exchange in the country. I disagree; I am rather inclined to believe investors were withholding their export earnings as protest against SI55.
Foreign Exchange Rate Policy
There is no consensus in the literature on the factors affecting exchange rates and their volatility. This absence of agreement reflects basic difficulties in modelling and predicting exchange rates.
When Zambia liberalised the her markets, it basically transferred the ownership of forex from the State that paid Zambia’s international debts with the funds to the now privatised mines that have no obligation to pay Zambia’s debts, interest or develop the nation, as the Bank of Zambia’s directive allowed for 100 per cent direct retention through exports (Chanda, 2014).
Sadly, the hard reality of Zambia’s so-called liberalised reforms when placed against other liberalised markets of the US, Japan and the European Union (EU) shows that Zambia’s money markets are not liberalised due to structural imbalances in allowing for equal access to US dollar inflows.
The US and EU markets follow SI 33 except it also includes exports, as the US dollar cannot buy directly anything from the EU unless it’s changed into Euro first.
The same applies for the euro buying anything from the US.
This implies that the structure of a true liberalised economy for Zambia is that copper has to be sold in Kwacha, meaning copper buyers with US dollars first have to change the US dollars into Kwacha on Zambia’s money markets and use Kwacha to buy copper. All the US dollar inflows from export first pass through the market, rather than mine bank accounts, so that every firm and person can have equal access to the inflows. If the mines wish to externalise 100 per cent of their Kwacha revenue, they would go onto the market and buy the US dollar just like any other person or firm with no questions asked or restrictions on amounts externalised (Chanda, 2014).
If SI 33 covered exports as well, then a level playing field would occur, but it is up to Zambia’s captains of industry, and not Government to coordinate the buying and selling of Kwacha/US dollars flows in and out of the money market (Chanda, 2014).
Conclusion
SI 33 and 55 were not the cause of the depreciation of the Kwacha directly, their implementation however created a widely supported opinion that they somehow hindered investor optimism. They lacked clarity in execution that left them susceptible to be blamed for currency depreciation. They however revealed bigger structural problems in the foreign exchange rate policy in Zambia.
The Zambia Government no longer owns the Mines. In 1996 the final phase of liberalisation of the foreign exchange market was implemented with Zambia Consolidated Copper Mines (ZCCM) being allowed to retain all its foreign currency earnings and supply foreign exchange to the market directly. ZCCM was then sold to foreign investors. Long story short the Zambian government has little control or even fair access to exchange inflows, yet it has to service debt in foreign currency. The problem is structural but has been compounded by market dynamics of a global nature.
According to the African Development Bank (ADB) (2007), the introduction of the interbank foreign-exchange market was considered an important step in improving efficiency in the market. This allowed commercial banks and other licensed agents to bid and offer foreign exchange on the interbank market, and corporates and individuals to sell and buy foreign exchange from commercial banks. Although this improved efficiency in the market I firmly believe this where the problem lies, in the interbank foreign exchange market. It needs some regulation, there has to be a tightly regulated bid offer spread to reduce volatility. An IMF working paper indicates that countries with a crawling band exchange rate regime appear to have been successful in lowering NEER volatility below the level that would correspond to their macroeconomic developments and degree of openness. Limiting the volatility in the exchange rate may be important due to the adverse effects it can have on sentiment both within financial markets and the economy. Especially, when the management of the exchange rate is the major tool for implementing monetary policy, excessive short-term volatility can erode the market's confidence in the regime.
In December 2012, The Bank of Zambia in CB Circular No: 05/2006 on the Modification to the Broad Based Interbank Foreign Exchange market system announced that it reduced the overnight overall and single foreign currency risk exposure limits from 25% to 20% and 20% of total regulatory capital respectively. A the same time intraday overall and single currency risk exposure limits were reduced from 40% and 30% of total regulatory capital to 30% and 20% of total regulatory capital.
Higher risk exposure is followed by higher profit margins of foreign currency trade and an added incentive to hold even more speculative positions. As research has already indicated the exchange rate in Zambia does not follow a random walk and thus the opportunity for consistent margins is high.
I am of the firm belief that this increased volatility because it allowed Banks to take more risky positions for bid offers. The Government has options, but it has to reduce the foreign currency exposure limits in the interbank foreign exchange market or introduce daily cap on positions banks can take. The former is less direct and my preferred choice of intervention but a reasonable cap on open, unhedged positions is also a viable avenue.
Central Banks across the globe continuously strive to achieve the financial stability in their respective economies. Nearly all the central banks issue guidelines for Risk Management in the commercial banks which they have to follow. These guidelines provides the minimum requirement and procedures to manage risks faced by a commercial bank and focus on establishing Risk Management Committee & Asset Liability Management committee by banks, setting limits for the open positions, measurement & control of risk , independent audit of risk management process and role board of directors & management.
Solutions
 SI 33 should apply to exports as well. Copper must be sold in Kwacha and it should be sold in Dollars it should be changed first into Kwacha. This will create a steady supply of Dollars on the Forex market.
 SI 55 should be reintroduced in conjunction with stakeholder consultation and a streamlined process of document submission.
 SI 55, should include a surcharge of 20 per cent duty on exporters who directly sell their exports in currencies other than Kwacha.
 The Government has to reduce the foreign currency exposure limits in the interbank foreign exchange market or introduce daily cap on positions banks can take.
 The Government can also introduce a reasonable cap on open, unhedged positions currency positions

References

Bank of Zambia. (2014). Press Statement on the Recent Developments in the Foreign Exchange Market. Lusaka: Bank of Zambia.

Chanda, D. M. (2014, April 15). ‘SI 33,55 EXPOSED DISTORTIONS’. Retrieved May 6, 2014, from Times Of Zambia: http://www.times.co.zm/?p=19176

D. Mbululu, C. A. (2013). Do exchange rates follow random walks? variance ratio test of the Zambian foreign foreign exchange. Southern African Business Review, Southern African Business Review Volume 17 Number 2 2013.

Hill, M. (2014, February 20). Zambia Calls Emergency Meeting as Kwacha Hits Record Low. Retrieved May 6, 2014, from Bloomberg: http://www.bloomberg.com/news/2014-02-19/bank-of-zambia-calls-emergency-meeting-as-kwacha-hits-record-low.html

Kalyalya, D. H. (2007). KEY DEVELOPEMNTS IN THE FINANCIAL SECTOR AND OULOOK FOR THE MEDIUM TERM. LAUNCH OF THE CULTURE REOMDELLING - ECONOMIC INFORMATION EXCHANGE FORUM , (pp. 6-7).

Kani, F. (1996 ). ‘Central Banking and Macroeconomic Stability’. Lusaka : Paper presented at the Bank of Zambia International Conference on Economic Liberalisation.

McCulloch, N. B.-R. (2000). ‘Poverty, Inequality and Growth in Zambia during the 1990s’. International Association for Research in Income and Wealth. Cracow, Poland

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Zambia 2014 Budget Analysis by Kampamba Shula

2014 Budget Analysis

On the 11th October 2013 , the honorable Finance minster presented the 2014 Budget address to the national assembly.This is an analysis based on  the information in the Address. All Graphs and Calculations belong to to the author and no claim can be made by any who choose to use the analysis in this article.

Overview of the Global and Domestic Economy Sectors in 2013

The global economy continues to recover slowly with global growth projected at 2.9%.This underscores the slowdown in emerging markets like Brazil, Russia, China and India whose growth in the recent years has been a pillar of the global economy. Weaker growth in the United States and the extended effects of the Eurozone recession have looked to further undermine global growth.

Sub-Saharan Africa’s performance has been relatively stronger in light of this with a real Gross Domestic Product (GDP) projected at 5%.

Commodities

Commodity prices have generally been lower in 2013 compared to 2012 partly due to lower demand form emerging Market like China and increased supply by copper producers like Chile. Copper prices fell from an average of US$7,960 per metric tonne in 2012 to US$7,416 between January and September 2013 (see graph above).

Zambia’s GDP growth is projected to remain strong above 6%.This is on the backdrop of strong performance in the mining, construction,manufacturing ,transport and communication sectors. With the decline in agricultural output, this projected out turn is lower than our budget forecast of above 7 percent

Inflation

In 2013, monetary policy focused on achieving an end-year inflation of 6 percent. As at end-September, 2013, inflation remained above target at 7 percent, following inflationary pressures largely associated with the removal of fuel and maize subsidies. To address these inflationary challenges, the Bank of Zambia raised the Policy Rate over the first half of the year to 9.75 percent from 9.25 percent in December, 2012. To complement this, the Central Bank undertook aggressive open market operations to curb money supply growth.

Lending rate

Average commercial bank lending rates have remained relatively stable at 16.5 percent as at end-September, 2013. The Government still believes that these rates are unacceptably high and are holding back domestically financed investments.

Exchange Rate

With regard to the exchange rate, this has stabilized at around K5.4 to the US dollar, reflecting improvement in the supply of foreign exchange during the third quarter of 2013.

Exports of gemstones, cement, electricity, sugar, tobacco, cotton lint, maize and maize seed all registered strong growth and this demonstrates the increased diversification and resilience of the Zambian economy

Gross International Reserves as at end-September 2013 stood at US$2.7 billion, about US$200 million higher than a year earlier, translating into 3 months of import cover.

With regard to fiscal policy, Government undertook measures to address long-standing structural challenges relating to fuel and maize subsidies as well as distortions in the public service pay structure. This was done to reinforce fiscal prudence, as well as enhance productivity for better public service delivery. As a result of these developments, the projected fiscal deficit for 2013 will be 8.5 percent of GDP, compared to the budget estimate of 4.5 percent.

Macroeconomic objectives

The Sixth National Development Plan has been revised to align it with the PF Government’s development agenda.

Macroeconomic objectives for 2014 are to:

a) Achieve real GDP growth of above 7 percent;

b) Create at least 200,000 decent jobs;

c) Attain end year inflation of no more than 6.5 percent;

d) Increase international reserves to over 3 months of import cover;

e) Maintain a fiscally sustainable public external debt level so that debt service and amortization do not exceed 30 percent of domestic revenues;

f) Increase domestic revenue collections to over 21 percent of GDP; and

g) Limit domestic borrowing to 2.5 percent of GDP and contain the overall deficit to no more than 6.6 percent of GDP

To ensure that Government is able to better capture the jobs created in the economy; data collection will be strengthened so that comprehensive labour market information at national and sub-national levels can be produced in a timely manner

Agriculture, Forestry and Fisheries

In the 2012/13 farming season, crop and livestock production had mixed results. The outbreak of army worms at the time of planting and lower than normal rainfall in the southern half of the country led to reduced maize output.

More regrettable was the significant decline in cotton production due to poor pricing in the previous year. Burley tobacco, soya beans, wheat and sunflower however, were among the crops which registered higher production levels. The livestock sub-sector has continued to grow in 2013, with cattle numbers increasing by 10 percent to almost four million and the number of poultry increasing by 18 percent to over 92 million.

Tourism Sector

Zambia successfully co-hosted the United Nations World Tourism Organisation’s 20th General Assembly this year. This is because Government provided targeted tax incentives for the tourism sector in 2013. In addition, Government heavily invested in expansion and rehabilitation of infrastructure at the Harry Mwaanga Nkumbula International Airport, as well as in road infrastructure and social amenities in Livingstone.

Government intends to build on this raised international profile to achieve its development targets for tourism. These include the promotion of product diversification and further investment in tourism infrastructure, including the Kenneth Kaunda International Airport. The aim is to diversify the tourism base by improving accessibility to our national parks, heritage sites and natural attractions. Government will also continue to streamline licensing procedures and enhance capacity in the hospitality industry.

Government has already introduced the hologram to protect income rights of musicians and film makers. In 2014, Government will also complete work on national film policy.

Manufacturing Sector

Government released K106.9 million to the Development Bank of Zambia to support the financing needs of industry, particularly Small and Medium Scale Enterprises. These enterprises also benefited from the resumption of funding through the Citizens Economic Empowerment Fund.

The linkages between the manufacturing and agriculture sectors have been strengthened through the rehabilitation of Nitrogen Chemicals of Zambia.

The removal of customs duty on most electrical and mechanical industrial equipment in 2013, allowed manufacturers to import major capital items at relatively lower costs. As a result of this measure and other initiatives under the Private Sector Development Programme, the manufacturing sector is expected to grow by 4.3 percent in 2013.

In 2014, Government will continue to promote the diversification of manufactured products, especially those with export market potential by, among other things, accelerating the development of the Multi-Facility Economic Zones. The Government remains committed to facilitating value addition in manufacturing with a view to exploiting regional and international export markets and creating more jobs for our youths

Mining Sector

Mining sector performance in the first half of 2013 remained positive. Copper production increased by 13.2 percent in the first half of 2013 to over 374,000 metric tonnes, compared to production over the same period in 2012. This was due to improved mining production techniques, the opening of Lubambe mine and ramping up production at Mulyashi copper mine. On the basis of this performance, copper production from large scale mines is projected to exceed last year’s production level.

Local auctioning of gemstones commenced this year. Government will continue to encourage this initiative and urge small scale gemstone miners to use this approach so that they get better value for their gemstones. Local auctioning will also improve Government’s ability to collect appropriate revenues from the sub-sector.

Private Sector Development

Government will continue to implement reforms aimed at building and enhancing a sustainable legislative and regulatory environment for private sector-led growth. This will include the continuation of business registration and licensing reforms. Key among these are the establishment of provincial one-stop shops for business registration, and the decentralisation of certain elements of the filing procedures for registration to Local Authorities to reduce the cost of doing business.

Infrastructure Development

Transport and Communications Infrastructure

In 2014, Government will continue to implement the Link Zambia 8000 programme. Under this programme, which commenced last year, work is progressing well on over 1,500 kilometres of roads. These include the Pedicle; Mongu-Kalabo; Kalabo-Sikongo-Angola border; Kasama-Mporokoso-Kaputa; Mbala-Nakonde; Mansa-Luwingu; Chipata-Chadiza-Katete; Chama-Matumbo; Isoka-Muyombe-Chama; Kitwe-Chingola; and the Leopards Hill-Chiawa roads as well as the bottom road from Munyumbwe to Chaanga. The programme is expected to promote development of local contracting capacity and create 24,000 jobs throughout the country. Already, 16,000 workers, mainly youths, have been employed.

His Excellency the President launched the Pave Zambia 2000 programme in September this year and work has commenced in Chawama in Lusaka and Petauke in Eastern Province. The Government will scale up this programme in 2014 to cover all the provinces. Once fully operational, this programme will generate income for up to 20,000 workers.

In addition to township roads, the Lusaka 400 programme was launched this year with the aim of decongesting the capital city by constructing 400 kilometres of link roads. I am pleased to report that work on this project has progressed significantly with over 150 kilometres of roads to be completed by the end of this year. This programme is expected to be completed by 2016.

Energy

Government continues to work with the private sector to increase installed electricity generation capacity and improve the transmission infrastructure. The extension of the Kariba North Bank Power Station will add 360 megawatts of hydro power to the installed capacity. By the end of this year, 180 megawatts will be added and the balance will come on stream in 2014. In addition, the Ndola Energy heavy fuel generating project is nearing completion and will contribute 50 megawatts by the end of this year.

With respect to Itezhi-tezhi, financing has been secured and works have progressed, whilst for the Kafue Gorge Lower power station, the tender process to engage a strategic equity partner is in progress. Itezhi-tezhi is expected to come on stream in 2015 with 120 megawatts, while the Kafue Gorge Lower power station with the capacity of 750 megawatts is expected to come on stream in 2019.

Two provincial fuel depots will be completed this year and a third in 2014, with installations in other provinces to follow thereafter. While efforts to upgrade Indeni Oil Refinery will continue in 2014, Government will also explore other options including construction of a new refinery with sufficient capacity to meet the ever increasing demand of our robust economy with surpluses for export.

Health Sector

Government remains committed to bringing affordable and quality health care as close to the family as possible. Accordingly, Government will continue to develop regional hubs to decentralise storage and distribution of medical drugs and supplies to better ensure their availability to all Zambians. Two hubs, in Chipata and Choma have already been established with two more in Mongu and Kasama planned for 2014. In 2014, Government will procure specialised medical equipment and requisite supplies for tertiary level hospitals to ensure non-interruption of services and reduce the number of referrals abroad. Further, Government will continue investing in district hospitals, especially for those districts that are currently not served with first level referral services and will also continue with its programme of constructing 650 health posts.

Education and Skills Development

Government will accelerate the re-introduction of the primary and secondary school system; promote the teaching of life skills to enable learners cope with the demands of self-employment in the labour market; promote the teaching of science and mathematics subjects; construct more technical schools and provide laboratory equipment.

With regard to tertiary education, Government will increase the number of students accessing quality and affordable university and college education by:

a) expanding student accommodation, lecture rooms and libraries at the University of Zambia, the Copperbelt University and Mulungushi University;

b) continuing with the development of infrastructure at Chalimbana and Palabana universities in Lusaka Province, Paul Mushindo and Robert Kapasa Makasa universities in Muchinga Province, Mukuba University on the Copperbelt and Kwame Nkhrumah University in Central Province; and

c) commencing the construction of Luapula University in Luapula Province and King Lewanika University in Western Province.

Monetary and Financial Sector Policies

The Bank of Zambia will maintain price and financial system stability by continuing to implement monetary policy through its interest rate targeting framework. Further, it will strengthen the regulatory framework governing the financial sector by updating and harmonising legislation.

Government will continue to maintain a flexible exchange rate regime with the Bank of Zambia only intervening to smoothen short term volatility. Additionally, the Bank of Zambia will continue to build international reserves to over 3 months of import cover.

Public Financial Management Reforms

With regard to public procurement, the Zambia Public Procurement Authority has already been transformed from an executing institution to an oversight and regulatory institution with procurement functions decentralised to spending agencies.

Therefore, under the Public Financial Management Reforms, Government will accelerate the establishment of a Treasury Single Account to enhance Government’s ability to oversee its accounts and avoid the accumulation of idle funds. Currently, Government is using the Treasury Single Account to fund personal emoluments, transfers to grant aided institutions and capital programmes. Beginning 2014, this will be extended to funding other categories of expenditure.

2014 Budget

Government proposes to spend a total of K42.68 billion or 30.7 percent of GDP. This will be financed through domestic revenues of K29.54 billion as well as grants of K2.63 billion from our cooperating partners. The balance of K10.51 billion will be met through foreign and domestic borrowing.

Allocations

General Public Services

Government has set aside K10.73 billion or 25.1 percent of the Budget for General Public Services which includes allocations for infrastructure development for the new districts, inter-governmental fiscal transfers and debt payments. Combined, these three account for 56.5 percent of this allocation.

Economic Affairs

Government has allocated K11.94 billion to economic sectors, representing 28.0 percent of the Budget.

·         Key interventions include the countrywide construction of dip tanks and silos for which an allocation of K231.9 million has been provided. The target is to increase the number dip tanks to combat animal disease and increase grain storage capacity to 1.3 million metric tonnes by the end of 2014. In addition, K80.9 million has been allocated to develop irrigated agriculture.

·         K500 million for the Farmer Input Support Programme to facilitate the provision of affordable crop and livestock inputs for our small scale farmers.

·         To secure and maintain the 500,000 metric tonnes of strategic food reserves, K1.0 billion has been set aside in the 2014 Budget.

·         K6.07 billion or 14.2 percent of the Budget has been allocated to the transport sector to construct, rehabilitate and maintain road, rail, water and air infrastructure.

·         K5.13 billion of this is earmarked for the Link Zambia 8000 Programme, PAVE Zambia 2000 project, the Lusaka 400 project and feeder roads in the rural areas.

·         With regard to the rail subsector, Government has allocated K339.8 million to recapitalise TAZARA and rehabilitate Zambia Railways Limited. The quality of rail travel for both goods and the public will improve and the negative impact on the nation’s roads from heavy commercial traffic will be mitigated.

·         K250 million for other critical interventions in the transport sector. These include the procurement of radars to bring our air safety levels to world standards, and dredging equipment and water vessels to improve water transport in the country.

·         In the energy sector, K550 million has been set aside for the power rehabilitation project under Zesco while K65 million has been allocated for the Rural Electrification Programme.

Education

·         K8.61 billion or 20.2 percent of the Budget on education. Out of this amount, K1.28 billion will go towards the construction of education infrastructure which will include 53 new secondary schools and the upgrading of 220 basic schools into secondary schools. Government will also construct an additional 150 primary school classrooms in the rural areas with corresponding 150 teacher houses, by using the community mode method.

·         Included in the education sector infrastructure budget is K404.3 million for university and other tertiary infrastructure, in particular student hostels at the University of Zambia, Copperbelt and Mulungushi Universities while an additional K395.3 million has been provided for operational grants for universities, student tuition and bursaries.

Health

·         9.9 percent of the Budget, or K4.23 billion on health services in 2014. Within this amount, K245.7 million is provided for the construction and rehabilitation of district hospitals, health centres, training schools and the upgrading of tertiary health care.

·         In order to enhance the availability of essential drugs and medical supplies, the budget in 2014 for these items has been increased by 24.3 percent to K738.7 million from K594.1 million in 2013. A further K66.6 million has been provided for medical equipment including the specialised equipment I mentioned earlier.

Public Order and Safety

·         K2.12 billion. To begin to redress the deplorable conditions in our prisons, K21.9 million has been allocated for expanding and improving prison infrastructure with a further K22.6 million allocated to prison farms so as to improve the nutrition of in-mates.

·         K27.2 million to procure digital forensic equipment and a mobile forensic laboratory, among others.

·         A total of K661.0 million has been allocated for housing and community amenities. Of this amount, K417.8 million has been budgeted for the provision of safe water and sanitation in both rural and urban areas.

Social Protection

·         K1.18 billion for social protection programmes in 2014. A large part of this increase arises from higher allocations to the Public Service Pension Fund, which will receive K754.2 million, in addition to the employers’ contribution.

Revenue Estimates and Measures

Revenue Measures

·         Increase excise duty on airtime from 10 percent to 15 percent.

·         Duty on clear beer from 40 to the duty rate of 60 percent. The revenue gain from these measures is K514.8 million.

·         Increased the property transfer tax rate from the current 5 percent to 10 percent. The measure is expected to generate an additional K100 million.

·         Charge at the rate of 0.2 percent of the value transferred on money transfer service to a recipient within or outside the Republic of Zambia. This measure will bring to the Treasury K180 million.

Rationalisation of the Tax System

·      Expand the Value Added Tax base by shifting several categories of zero rated goods and services to the standard rated category. This will generate a revenue gain of K151 million.

·      To equalize tax treatment between branches and subsidiaries and prevent tax avoidance, I propose to extend the withholding tax to profits distributed by branches of foreign companies. This will generate additional revenues of K1 million.

·       withholding tax on payments to non-residents on royalties, management and consultancy fees is at 20 percent

·      Withholding tax on commissions, public entertainment fees and payments made to non-resident contractors to 20 percent. This measure will result in a revenue gain of K71.7 million

·      Change the taxation of rental income by reducing the withholding tax to 10 percent from 15 percent and make this a final tax. As such, turnover tax on rental income shall not be applicable.

·      As a way of further stimulating the booming property sector, which is a source of employment creation, It has been propose to exempt from withholding tax interest arising from the debenture part of a property linked unit paid to Zambian investors in any Property Loan Stock Company listed on the Lusaka Stock Exchange.

·      In order to broaden the tax base, I propose to introduce a withholding tax of 20 percent on winnings from gaming, lotteries and betting and make it a final tax.

Streamlining of Tax Incentives

Any investor, foreign or local, who pledges to invest at least half a million United States dollars in a priority sector or product, as declared under the Zambia Development Agency Act, is entitled to tax incentives. In particular, they are exempt from paying duty for the first five years, are entitled to a five year income tax holiday and benefit from a further five years of preferential income tax rates.

Align the sectors declared as priority under the Zambia Development Agency Act to the Revised Sixth National Development Plan

Current PAYE Regime Income Band	Tax Rate
0 - K2,200 per month	0%
K2,201 – K3,000 per month	25%
K3,001 – K5,900 per month	30%
Above K5,900 per month	35%

Proposed PAYE Regime Income Band	Tax Rate
0 - K3,000 per month	0%
K3,001 – K3,800 per month	25%
K3,801 – K5,900 per month	30%
Above K5,900 per month	35

                                                                    

 Non Tax Revenues

·         As part of its comprehensive land reform programme, Government has launched the Integrated Land Management Information System whose benefits, among others, are to strengthen the administration of land and regularise land ownership through surveying and titling of land country wide. This measure will improve certainty of land location and ownership, enhance security of tenure for both customary and state land, improve transparency in land transaction procedures and increase revenue collection among others.

·         Toll fees collected from toll gates based on the Road User Pay principle is one of the most sustainable sources of financing for the roads. The Government has embarked on tolling of selected major roads whose proceeds will be channelled to the rehabilitation and maintenance of roads country wide. Tolling of commercial traffic will commence before the end of this year using the existing weigh bridge infrastructure.

·         Revise upwards various fees and fines to bring them to appropriate cost recovery levels of providing the respective services. These fees include those collected by the Ministry of Lands. Natural Resources and Environmental Protection, Ministry of Information and Broadcasting Services, Ministry of Mines, Energy and Water Development and Ministry of Home Affairs. These measures will take effect from 1st January, 2014.

·         Government will raise an estimated K550 million from these non-tax measures in 2014.

Short Comings (Authors view)

This Budget is a decent attempt at creating equity in resource allocation, that being said they are some shortfalls.

In my personal view there are certain short comings in this budget which need to be addressed in this budget.

Public sector reforms

Public sector pay has been characterised by distortions in salary levels and inequities in other conditions of service. In 2013, Government has fast-tracked the implementation of the reforms, especially to benefit the lower paid public workers.

Review of public pensions

Enhancement of the public service performance management system and the creation of a public service credit union to replace the various loan schemes  that are currently in place need to be managed with the utmost prudence.

Pension Reforms

A good pension system should subscribe to the basic principles of affordability, sustainability, portability, wide coverage and adequacy. The current pension systems, particularly the public pensions, clearly fall short of these principles. The public pension funds for instance, are fiscally unsustainable, not transferable between jobs and are unable to meet the minimum living requirements of retirees. Over the medium to long term, Government will implement wider reforms.

The Public Service Pension Fund has huge deficits that are projected at K2.9 billion in 2014, K2.6 billion in 2015 and K2.8 billion in 2016. Given that the Public Service Pension Fund is wholly owned by Government, it means that these deficits have to be funded from tax payers’ money. Against the backdrop of significant fiscal challenges that we are experiencing to mobilise sufficient resources for development, pension reforms can no longer be avoided.

Government intends to implement changes to the Public Service Pension Fund that will include changing the retirement age; revising the basis for calculating the pensionable emoluments and reviewing the commutation factors. My concern is here is that if the retirement age is increased, the number of job openings will reduce for incoming graduates and other workers. In essence this could change labour demographic dynamics in a negative way.

Agriculture

The allocation of K500 Million and K1 Billion to the FISP and FRA respectively heavily skews agricultural finance to none research oriented projects. A little portion of this money could have gone into strengthening the research capacity. More research can be done in disease and crop marketing. However the constructing multi-purpose dams and irrigation schemes to limit dependence on rain-fed agriculture is a welcome initiative.

Tourism Sector

Value added Standard rate for the supply of All distinct tourism services including game viewing, bungee jumping, and Pre-booked tour packages booked after 1 January, 2014, could possibly hurt the tourism Industry depending on the elasticity of such services

Manufacturing Sector and SMEs

It appears that incentives for investors remain skewed towards big corporations with finance to qualify for MFEZ and ZDA tax incentives. The portion of finance allocated to the growth of SMEs is at K106.9mil is relatively small What SMEs need is not only finance but a healthy environment that fosters their growth. In this regard some more key incentives for SMEs could be implemented to cushion some of their costs. SMEs hire their most people in the labour force and will help create the much needed Job growth.

There was not sufficeient finance allocated to the value addition process, especially in agriculture and copper.

Infrastructure

K618.5 million from the Eurobond proceeds was earmarked for track rehabilitation and procurement of rolling stock for Zambia Railways. Progress has been lethargic due to procurement delays and administrative bottlenecks. This sort of management of infrastructure funds is not prudent and serves to undermine the completion of earmarked projects. The reason Eurobond money was under the auspice that the projects had already been identified. A bureaucratic procurement process doesn't help at all.

References

2014 Budget Address by the Minister of Finance

London Metal Stock exchange

Bank of Zambia

Central statistics Office

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