Sunday, 11 August 2013

Where Venezuela is heading

Demystifying the burning process

The term "burning money" has become very common in Zimbabwe. It refers to the selling of Foreign Currency originally by Real Time Gross Settlement (RTGS) or Inter-Account Transfers, and now, through the use of cheques.

[This was published in The Zimbabwean on 20 November 2008, the last day of hyperinflation of  89,700,000,000,000,000,000,000.00 percent per annum.
This is where Venezuela may be heading. Why be productive if you can multiply your salary six times by simple arbitrage.  Top people in Venezuela are getting fabulously rich from arbitrage. They are not going to stop the party. Why have an economy? There is absolutely no logical reason to have a productive economy when you can get fabulously rich from arbitrage. 
This will definitely destroy what is left of the Venezuelan economy.]

The rates have risen so high that it takes less than US$1 to pay the whole of the civil service. As evidenced by the ever winding cash queues at banks, a good number of Zimbabweans are participating directly or indirectly in the "burning process".

Most of the money in circulation comes from the sale of Old Mutual Shares and other dually listed counters. People sell the shares, use the money to buy hard currency and then repurchase shares on the Johannesburg Stock Exchange (JSE) or the London Stock Exchange (LSE). This process can earn one more than 1000 per cent return per week on investment.
For example, on November 11, 2008 the Old Mutual Implied Rate (OMIR) was at Z$22.39 quadrillion per US dollar, while the Cheque Rate was Z$500 trillion per US dollar.

This means one US dollar in the hands of a person with an Old Mutual share was worth 44.78 times more than dealers were paying for a dollar "burnt" using the Cheque Rate. In Zimbabwe, a cheque takes up to four days to clear. However, if one has "enough clout" they can request same-day value and the money clears the same day it is deposited.

Owners of the famed "pots", who sell shares, can get their money on the same day, allowing them to instantly start writing cheques.

The whole process fuels itself. After someone "burns" money, they get a lot of quadrillions they can't use because most people are no longer accepting cheque payments. They then buy shares.

Most businesses are using money in their banks to buy shares and in turn, ordinary people are not selling shares because they cannot use the proceeds in any way. This creates an
artificial Bull-run on the Zimbabwe Stock Exchange.

The whole process creates a very unnatural situation where those trading in the dually listed shares are benefiting while the rest of the country is crying foul.

Ordinary people who sell foreign currency are also benefiting. If someone sold a dollar on November 11, they would have got Z$500 trillion. The cash rate for the same day was Z$350,000.00 for one US dollar. They only need to go and queue for the Z$500 000 being given by banks, then use the money to buy 1 US dollar on the flourishing parallel

The whole process is destroying the economy as most of the money in bank accounts is artificial. There is no-longer any incentive to work, because people make more from burning. Companies have money in their accounts that they can no longer use to make payments as the money cannot compete with proceeds from the burning process. Pricing of goods is no longer possible in Zimbabwe dollar terms.

Can companies rely on the OMIR when billing their clients or converting Financial Statements to US dollars? The OMIR is based on the "No Arbitrage Assumption" that the value of Old Mutual Shares is the same wherever the share trades, and one cannot make a risk-free-profit by buying and selling the share in a different currency. We have shown that this is very possible.

There are a number of possible solutions:

* Dollarising the trade in shares of dually listed companies. If these shares are traded in hard currency, this does away with the arbitrage opportunities addressed above.

* Dollarising the whole economy or using a more stable regional currency such as the rand.

The Zimbabwean 20 November 2008

[The Governor of the Zimbabwe Reserve Bank closed the Zimbabwe Stock Exchange on that day (20 November, 2008) which stopped trading in Old Mutual shares which provided the OMIR (Old Mutual Implied Rate) which was the last exchange rate of the Zimbabwe Dollar with the British Pound. No exchange rate completely ended the real monetary exchange value of the Zimbabwe Dollar. The economy was already at a very advanced stage of spontaneous Dollarization.

Let us wait and see what is going to happen in the Venezuelan economy. We have an excellent example to follow in what happened in Zimbabwe.]

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