OPEN ECONOMY: Economic cycles and deleveraging

01 Mar, 2015 - 00:03 0 Views

The Sunday Mail

Economies are cyclical in nature.

It’s a trait adopted from how we do business transactions. As goods are exchanged, or services are provided, a payment is received.

A proprietor carries on business in this repetitive sequence of transactions. Even financing has a cyclical manner.

As a proprietor sources finance, capital expenditures rise in the short term, but with obligations of debt servicing towards maturity, the rate of expenditure on capital expansion falls.

An economy is basically a big web of businesses involved in these cyclical events, so as the sum of its components, it is inherently cyclical in nature.

It would be wise then for us to evaluate our economy with such a perspective.

As we are dependent on foreign financing, it is especially imperative to be mindful of debt cycles.

We have lacked the necessary economic inclination to successfully navigate through our debt cycles.

Government debt has reached unsustainable levels with little to show in terms of utilisation of the debt to achieve economic growth. As we have accumulated debt, we have not been able to incite the kind of productivity growth that could enable us to service that debt.

Instead, fiscal carelessness and macro-irresponsibility have contributed to decreased productivity and eventual contraction that only deepen our arrears.

Any country burdened by excessive sovereign debt runs the risk of eventual debt spillage from public structures into the private sector.

We have failed to mitigate such an occurrence.

The private sector has become plagued by excessive debt, causing the ever-growing rates of non-performing loans (NPLs) in financial institutions, which now show weakened balance sheets.

As testament to how debt has gotten so out of hand, even the Central Bank is compromised in its stature as lender of last resort.

This has culminated in our economy being over leveraged!

There is too much debt in the economy! (I should emphasise that this is not mutually exclusive with the fact that lending will be necessary moving ahead.)

Our economy needs to go through a deleveraging process. Understanding the course of deleveraging is of critical importance to all economic stakeholders for a number of reasons.

Greater understanding of the process will bring about better policy cohesion in the public sector, fitting business strategies in the private sector and acceptance from society of the immediate effects to be felt from deleveraging.

Deleveraging is no easy task.

What seems to be encouraging, however, is that certain quarters of the economy have already begun working on the process, albeit a few of us are doing it wrong.

Deleveraging is a four staged process.

It involves re-balancing the economy through income and cost adjustments, public and private sector debt reduction, wealth distribution and increasing money supply or liquidity.

This all happens in sequence over a long period of time.

In terms of economic balance, it is necessary to incentivise businesses into pursuing cost competitive strategies.

Lowering costs enables businesses to increase margins and win greater market share.

Policy-makers, through regulation, must play to this perspective and create an environment that fosters cost competitiveness.

This can be done by reducing compliance fees and statutory expenses to attract new entrants into certain sectors. By encouraging more broad free markets, cost competitiveness will happen.

Particularly, large companies are unhurried to innovate cost structures simply because there is little local competition.

Using market forces can solve these inefficiencies.

It is also the best way to force executives into lowering their astronomical, but unjustified salaries and perks. You will notice that large remunerations in our economy are characteristic of sectors with barriers to entry.

These are the same companies failing and passing on defaults to banks and pressuring Government for more loans.

Also, as these companies fail, they leave many SMEs in debts that they were serving these large companies. This is how unbalanced cost structures have inflated debt in the economy.

In terms of public debt reduction, it would suffice to focus on fiscal accountability.

“Cutting the Government wage bill” has become an excuse for timid policy-makers to pursue what are really inequitable means of debt reduction.

For a number of years now, the Comptroller and Auditor General’s Report has revealed misappropriations, corruption and fiscal wastage in our state ministries.

Hundreds of millions of dollars have gone unaccounted for in the last three fiscal years.

Timid policy-makers have done nothing, consistently overlooking this debt sinkhole and reaching out for easier yet ineffective solutions like retrenching low level civil servants.

The only effective way to achieve debt reduction in the long term is accountability in state institutions.

With disciplined state institutions, debt overspill into the private sector and overall economy will reduce significantly.

It is a simple matter of political will; do we want to or not?

If we can achieve the aforementioned economic balance and debt reduction, the economy will become much more stable. Imagine it as landing on a net, breaking our economic fall.

If we can go for at least two years with such stability, maybe then we can look forward to realising real sustainable growth.

In that case, wealth distribution would be a tool to stimulate this growth.

Getting money into the hands of the consumer will trigger demand for more productivity and capital investment.

The most sustainable means of getting money into people’s hands is through increased and effective Government spending.

Service delivery and public offerings enhance citizens’ earning potential because education, health and infrastructure have the effect of improving a citizen’s competency.

This is what Zim Asset aims to achieve because without good service delivery, a country cannot produce citizens capable of creating the type of wealth necessary to sustain long term growth.

Hoping that productivity starts to rise, increased money supply and liquidity would be essential.

There has to be enough money in an economy to carry productivity. This means that as a nation, we must start investing our efforts into exploring greater financial ingenuity.

Mobile money, discounting and factoring must be tools Zimbabwe should get accustomed to using in the long term.

This would make us competent in shortening cash cycles, increasing velocity of money, and ultimately achieving adequate liquidity to correspond with productivity growth.

We need to infuse this financial education.

Hopefully by this stage, broad lending will have improved, but under more prudent and responsible credit conditions. All in all, this is the process of deleveraging. In developed economies, it takes an average of seven years until debt is lowered to sustainable levels. I cannot say for sure how long it would take us, but overriding any time preference we may have is that deleveraging is just something we cannot avoid.

It is necessary.

It is the only way to start a new debt cycle for our economy. Only when we can successfully deleverage ourselves will we get back to creditworthiness to attract capital inflows into our economy. As long as we have our present macro-economic debt outlook, it will remain very hard to access loans, FDI and any other external finance.

Even if we do get immediate finance into the country, with our history in debt cycles, is there reason to believe we will avoid future debt calamities as the one we are in right now?

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