Zimbabwe: How Bad Money Drives Out Good

WASHINGTON: Gresham’s Law from 16th century England says bad money drives out good. Sir Thomas Gresham, money manager for Queen Elizabeth I, argued that if two coins with the same nominal value simultaneously circulate the one with the most gold will be hoarded while the less valuable coin is used.

Who would have guessed that in our time this medieval axiom would be tested—of all places—in Zimbabwe, the once rich, now impoverished land in southern Africa.

Zimbabwe is ruled by 92-year-old Robert Mugabe who traveled this week to Cuba for the funeral of his friend Fidel Castro who died at age 90. Under Mugabe Zimbabwe recorded in 2008 the world’s highest rate of inflation. As prices rapidly escalated—rising multiple times daily—the central bank issued progressively larger denomination Zimbabwe dollars. That process culminated with the issuance of a 50 trillion note.

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With the economy in chaos a reformist finance minister, Tendai Biti, was named. He abolished the Zimbabwe dollar and established the U.S. dollar as the country’s currency. Hyperinflation was halted and for a few years the economy began to recover.

But in recent years the commodity boom that had held up the prices of Zimbabwean mineral exports went bust. There was a devastating drought and the U.S. dollar soared against the currency of South Africa, Zimbabwe’s major trading partner.

Zimbabwe ran out of money and unable to issue its own currency deflation took hold. Cash is in such short supply that civil servants, police and military, are seldom paid on time. For months there have been restrictions limiting what can be withdrawn from cash machines. Then cash machines were seldom open and people lined up over night in hopes of getting some of their savings from the banks.

Aware of a deepening crisis, for several months Zimbabwe’s central bank told citizens that it would issue “bond notes,” a temporary expedient to alleviate the cash shortage. Ordinary people, remembering hyperinflation, protested. The bond note proposal was ridiculed as a back door method of reintroducing the discredited Zimbabwe dollar.

On November 28th as Mugabe jetted off to Havana the bond notes were finally released. They had been secretly printed and the first batch is only two dollar notes exchangeable one to one with U.S. dollars. The government says the notes are backed by a hard currency loan from a multi-lateral bank based in Cairo. The small denomination bond notes are sprinkled among U.S. dollars in the cash machines that are working.

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The word “bond note” is on the red banner near the top.

This week moneychangers reappeared on the streets of Harare, Zimbabwe’s capital. Despite harassment from police the bond notes in some places trade at a 15% discount. Critics say the notes are of poor quality and that the green color smudges against white paper.

Gresham’s Law appears to be kicking in. In places where the official rate is honored people are using bond notes while holding back their U.S. dollars.

The government says it will issue $12 million of bond notes in coming weeks.

So far there have been few surprises. Some shopkeepers applaud the notes saying they are helping overcome the cash shortage. Others call bond notes a desperate move by a failing state.

Zimbabwe is in desperate straits. Hard times and economic mismanagement prompted a third of its population to flee. Between 1997 and 2008 the economy shrank by 50%. Payroll accounts for 85% of government spending. Unemployment is as high as 80%. International agencies say 33,000 children need immediate attention for malnutrition and that four million Zimbabweans are food insecure.

International agencies are prepared to help. Efforts are being made to pay off Zimbabwe’s large foreign debt and the country’s arrears to the International Monetary Fund have been cleared.

A major problem is that president Mugabe has not named a successor and the ruling party is divided as to who will take over upon his demise.

 

 

One thought on “Zimbabwe: How Bad Money Drives Out Good

  1. Great article! I agree with most of what you said sir, but Tendai Biti is not the one who abolished the Zim Dollar. It was Patrick Chinamasa who abolished the Zim Dollar on January 29th, 2009. That was a few months before the Unity Government was formed. You might want to do more research on that. Thanks for the article though.

    Like

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