Zimbabwe this week entered the second phase of the injection of new banknotes into circulation since the reintroduction of the local currency in 2019.
Firstly, the second phase of the introduction of new notes represents the first time since de-dollarisation that the government has really introduced “new notes”. Besides the numerical effect to the overall notes balances in the economy, the “new notes” did not purely count as new to ordinary citizens. That users in the street kept referring to them as bond notes shows that there was little to nothing which distinguished the notes from the pre-existing bond notes.
By focussing on the “newness” of the currency, Zimbabweans intuitively missed the real catch on what impact the injected cash would have on overall money supply and other aggregates such as inflation. This may have been a strategic move to prepare the generality of the citizenry and help calm nerves given the background of hyperinflation. Giving more of the same thing and pretending it is a new thing altogether and in the process achieve a default positive feedback would paint a very bright picture on the notes’ acceptability. In practice, at the time the Reserve Bank of Zimbabwe (RBZ) introduced the ZW$2 and ZW$5 notes, the market was in deficit of notes.
Typically, economies operate with about 10% to 15% of total money in circulation coming in the form of notes and coins. Looking at Zimbabwe at the time, which is around October 2019, total notes and coins totalled nearly ZW$850 million, which represented less than 3% of total money supply (ZW$28 billion). Following the rule of thumb, injecting ZW$1 billion in the form of notes would bring the ratio close to the desired level of 10%.
This theoretically appeared sound, but a whole lot of other variables were at play. By the end of 2019, total money supply was sitting at ZW$34,9 billion, a sharp growth of 20,6% on the October total money supply level. Notes and coins totalled ZW$1,07 billion, resulting in an even reduced percentage compared to the month before the “new notes” were introduced. So one thing is telling, in order for the ratio to be manageable or reliable, broad money has to be stable. On the other hand, broad money is largely driven by currency stability.
So the single largest determinant of broad money supply growth has been the worsening exchange rate. Now, chasing a theoretical ratio (10%), would mean the RBZ would have to inject new notes every other month at an even higher injection level.
The real question in all this, is whether the injection would cause inflation. Theoretically, the injection of new notes into the financial system within a certain minimum threshold of 10% of money supply should not cause inflation, if existing electronic balances are cancelled out for the former. But all this too rebuffs reality on the Zimbabwean scene.
The streets know no data and there is no way to measure the RBZ’s sincerity on meeting its end of the bargain. These are largely normative issues which are often ignored in the process of evaluating the likely outcome when the RBZ injects new notes into the system. The history of Zimbabwe with regards money, especially paper money, is very traumatising. The Zimdollar is a dreaded currency given the hyperinflation of two decades ago.
Zimbabweans have learnt and internalised the idea that their own currency does not work based on experience. The traumatising experience of 2008 forms the core of how Zimbabweans react to new notes injection in the present day. The freefall in the currency against the US dollar since its inception in 2019 also shapes perception and reaction.
On top of these issues is underlying political polarisation which worsens perceptions around economic and political governance.
So in essence, from an elementary economics perspective, an injection of ZW$600 million in new money (notes) would not cause any inflation on a broad money supply base of ZW$39 billion (April), if all else was stable. The discrepancy in the likely outcome is due to the phenomenon of perception. Perception plays a far much bigger role in driving inflation through exchange rate, than the actual would. In the scenario above we expect the electronic injection to drive inflation at a higher rate than the notes, but the opposite will play out to be true.
Gwenzi is a financial analyst and managing director of Equity Axis, a financial media firm offering business intelligence, economic and equity research.