The Kwacha and
Exchange Rate Policy
Based on a study supported by
The International Growth Centre (LSE & Oxford)
John Weeks
Professor Emeritus
University of London
http://jweeks.org
Major points
The Kwacha:
1 Over the last several years the short run variation
in the Kwacha was low.
2 Nominal depreciation in recent months continues
a longer trend dating back to late 2009.
3 Since late 2009 nominal depreciation resulted in a
relatively stable & constant “real” exchange rate.
4 The depreciation trend is similar to that in other
countries of the region over the same period.
Bank of Zambia
1 Operations in foreign exchange markets have
reduced variation of the Kwacha.
2 Reducing variation is asymmetrical, more
effective to slow appreciation (reserves increase)
than to reduce depreciation (reserves decrease).
3 Further reduction in variations would require a
large increase in reserves, plus information on
foreign exchange flows that BoZ cannot know or
predict (private sector foreign exchange
management).
Major policy implications
1 Short run variations in the Kwacha are small
and do not require policy intervention beyond
the usual market operations of BoZ.
2 The depreciation trend has resulted in a
relatively constant real exchange rate and
should not be a cause of concern.
3 The current level of BoZ reserve holding is
slightly below IMF guidelines, requiring
accumulation.
SUMMARY
Unlike during some moments over the
last 20 years, the Kwacha exchange rate
is not now a problem requiring a
substantial policy shift by the BoZ or the
government, and this allows for necessary
reserve accumulation.
Elaborations on
- the “Dutch Disease”
- BoZ “intervention”
- a “strong” and “weak” Kwacha
- appropriate exchange rate in the context
of copper’s role in the trade account
- nominal exchange rate “stability”
Flow chart: The nominal Kwacha
Monthly nominal exchange rates with 4 currencies,
percentage deviations from average, 2005.01-2014.02
(increase is a depreciation)
ZAR (.137)
20
UKP (.094)
30
US$ (.148)
40
Euro (.158)
10
0
-10
-20
-30
-40
2014.01
2013.10
2013.07
2013.04
2013.01
2012.10
2012.07
2012.04
2012.01
2011.10
2011.07
2011.04
2011.01
2010.10
2010.07
2010.04
2010.01
2009.10
2009.07
2009.04
2009.01
2008.10
2008.07
2008.04
2008.01
2007.10
2007.07
2007.04
2007.01
2006.10
2006.07
2006.04
2006.01
2005.10
2005.07
2005.04
2005.01
4 exchanges rates to US$, 2010.01-2013.12,
percentage deviation from 2010.01
(coefficient of variation in legend)
45
40
Zambia (.053)
Kenya (.055)
35
Uganda (.075)
Tanzania (.056)
30
25
20
15
10
5
0
2013.12
2013.10
2013.08
2013.06
2013.04
2013.02
2012.12
2012.10
2012.08
2012.06
2012.04
2012.02
2011.12
2011.10
2011.08
2011.06
2011.04
2011.02
2010.12
2010.10
2010.08
2010.06
2010.04
2010.02
Monthly real exchange rates with 4 currencies,
percentage deviations from period average (set to 0),
2005(Jan) -2013(Aug)
60
-20
-30
2013.07
2013.04
2013.01
2012.10
2012.07
2012.04
2012.01
2011.10
2011.07
2011.04
2011.01
2010.10
2010.07
2010.04
2010.01
2009.10
2009.07
2009.04
2009.01
2008.10
2008.07
2008.04
2008.01
2007.10
2007.07
2007.04
2007.01
2006.10
2006.07
2006.04
2006.01
2005.10
2005.07
2005.04
2005.01
-10
ZAR (.162)
30
UKP (.191)
40
US D (.148)
50
euro (.141)
20
10
0
Percentage difference in real exchange rate
compared to period average, 2011.07-2013.09
4
3
2
1
0
2013.09
2013.07
2013.05
2013.03
2013.01
2012.11
2012.09
2012.07
2012.05
2012.03
2012.01
-4
2011.11
-3
2011.09
-2
2011.07
-1
The mild trend of nominal depreciation in
the Kwacha is consistent with external
indicators.
Stability of the real (PPP) exchange rate
suggests an overall stability of the
balance of payments.
Monthly US$ trade balance without re-exports,
2003.01-2013.11, US$ mns
2013.07
2012.12
2012.05
2011.10
2011.03
2010.08
2010.01
2009.06
2008.11
2008.04
2007.09
2007.02
2006.07
2005.12
2005.05
2004.10
2004.03
2003.08
2003.01
300
275
250
225
200
175
150
125
100
75
50
25
0
-25
-50
-75
-100
-125
-150
Monthly percentage point spread, Zambian 91 day T-Bills
& US Federal Funds Rate, deviations from period
average, 2003.01-2013.11
(averages in legend)
30
Zambian 91 day T-Bill (9.4)
25
Zambian 24 month bond (15.1)
20
15
10
5
0
2013.07
2013.01
2012.07
2012.01
2011.07
2011.01
2010.07
2010.01
2009.07
2009.01
2008.07
2008.01
2007.07
2007.01
2006.07
2006.01
2005.07
2005.01
2004.07
2004.01
-15
2003.07
-10
2003.01
-5
Sources of Kwacha variation
and BoZ operations
Quarterly trade balance without re-exports & coefficient
of variation, 2000.1-2013.4* (US$ mns)
600
2005.4
500
coef var = 2.00
400
coef var = -0.53
300
200
100
0
2013.3
2012.4
2012.1
2011.2
2010.3
2009.4
2009.1
2008.2
2007.3
2006.4
2006.1
2005.2
2004.3
2003.4
2003.1
2002.2
-400
2001.3
-300
2000.4
-200
2000.1
-100
Estimation of the BoZ effect
Causal variables:
1 trade balance (ratio of exports to imports)
2 domestic and foreign interest rates (percentage
point spread
3 BoZ foreign exchange operations (US$)
4 Kwacha value in previous period
Changes in Kwacha/US$ rate by quarter, actual and
without estimated BoZ effect, 2006.1-2013.3
(number of Kwacha)
1000
Actual change (aveage* = 250)
750
w/o BoZ (average* = 415)
500
250
0
-250
-500
-750
-1000
-1250
-1500
2013.3
2013.1
2012.3
2012.1
2011.3
2011.1
2010.3
2010.1
2009.3
2009.1
2008.3
2008.1
2007.3
2007.1
2006.3
2006.1
Summary
I estimate that during 2006-2013 BoZ
operations reduced the variation in the Kwacha
from 9.2% of its quarterly value to 5.5%.
Why not by more?
Limits set by reserve holdings and the inherent
instability of mineral prices.
Policy conclusions
1 The Kwacha has been relatively stable by both
nominal PPP measures over the last two years, partly
due to BoZ participation in the forex market which
are appropriate and effective.
2 Going beyond exchange rate stabilization to medium
term exchange rate management could undermine the
goals of growth, diversification and exchange rate
stability itself.
Policy conclusions (continued)
3 The exchange rate does not appear to be an effective
instrument to alter the relative price of tradables to
non-tradables in either the short or medium term.
4 As a result, in Zambia the exchange rate is not an
effective instrument to foster competitiveness of noncopper exports, though it may be a part of a
diversification strategy.
Suggestions
1 The instability of the global copper price
implies that serious consideration be given to
creation of a “copper fund”, for medium term
exchange rate management & revenue
smoothing.
2 Closer monitoring of foreign exchange flows
from copper requires action by BoZ’s partners
in relevant ministries (ZRA, MFNP and
Ministry of Mines).