IMF CALLS ZIMBABWE RECOVERY FRAGILE, WARNS OF MORE

UNCLAS SECTION 01 OF 03 HARARE 000863 SENSITIVE SIPDIS AF/S FOR B.WALCH DRL FOR N. WILETT ADDIS ABABA FOR USAU ADDIS ABABA FOR ACSS STATE PASS TO USAID FOR J.HARMON AND L.DOBBINS NSC FOR M.GAVIN E.O. 12958: N/A TAGS: EFIN ECON PGOV ZI SUBJECT: IMF CALLS ZIMBABWE RECOVERY FRAGILE, WARNS OF MORE CENTRAL BANK SHENANIGANS REF: A. HARARE 820 ¶B. HARARE 831 AND PREVIOUS ¶1. (SBU) SUMMARY: In an update of their cautious assessment of economic conditions in Zimbabwe (ref A),an IMF mission reported that Zimbabwe is in a "fragile recovery" threatened by an unstable balance of payments and weaknesses in the banking system. Fiscal policy was on track, but continuing mismanagement at the Reserve Bank of Zimbabwe (RBZ) spelled trouble. Finance Minister Tendai Biti wanted to pursue debt relief, but he needed positive signs from donors. The IMF advised donors to signal more support for Biti that could help him in coming budget battles. Provided conditions allow, the IMF could return in January to begin discussions on a staff-monitored program. If the inclusive government survives its present crisis (ref B),closer engagement by IMF staff or technical assistance for Biti's ministry would be worth considering. END SUMMARY. ¶2. (U) Vitaliy Kramarenko, an IMF division chief, led the four-member team that spent two weeks in Harare. Kramarenko briefed donor representatives on October 27. -------------- FRAGILE RECOVERY, WITH RISKS -------------- ¶3. (SBU) Kramarenko said Zimbabwe's economy was clearly growing, but significant risks made the recovery look fragile. The current-account deficit was growing while capital flows remained volatile, creating the risk of "a disorderly balance-of-payments adjustment" -- i.e., growth could falter if local producers fail to become competitive again. ¶4. (SBU) There were also risks in the monetary sector. Money supply had grown rapidly -- tripling in the first nine months of the year -- but dollarization left the RBZ with no means of controlling this trend. Furthermore, since the RBZ could no longer act as lender of last resort, the banking system was exposed to higher liquidity and lending risks. -------------- RBZ DIVERTS BANKS' RESERVES, BLEEDS MONEY -------------- ¶5. (SBU) Mismanagement at the RBZ had magnified the risk of instability in the banking system, Kramarenko said. Confirming a suspicion formed several weeks in advance of their visit, the IMF team established that as of the end of August the RBZ had spent US$39 million of banks' required reserves. "By now it could be more," Kramarenko said. The missing reserves amounted to just over 80 percent of the total amount banks were required to hold with the RBZ to back customers' deposits. Kramarenko said the risk of bank runs would increase if this information were discussed publicly. (NOTE: Rumors spread quickly in Zimbabwe, and we expect this information will soon be widely circulated. END NOTE.) ¶6. (SBU) Kramarenko said RBZ Governor Gideon Gono, who seemed "relatively sure of himself," had promised that the RBZ would restore balances in the banks' reserve accounts by the end of November. But the IMF may not be able to determine whether QNovember. But the IMF may not be able to determine whether Gono keeps his promise. "We only get data from the central bank when we are here," Kramarenko said. The next IMF mission to Zimbabwe would probably not happen before January and could come as late as March. ¶7. (SBU) The RBZ's balance sheet is "bleeding US$10 million HARARE 00000863 002 OF 003 per month," according to Kramarenko. He said even though the RBZ was bankrupt and should seek protection from creditors until an orderly restructuring could be done, Gono was making selective repayment of the RBZ's overdue obligations, which total US$1.3 billion. Kramarenko expressed concern about the absence of oversight of Gono's decisions on which creditors get paid. Similarly, any sale of RBZ assets to restore banks' missing reserves would likely lack transparency. -------------- FISCAL POLICY ON TRACK, "NO CHOICE" ON SDR'S -------------- ¶8. (SBU) Kramarenko reported that fiscal policy was on track. The GOZ had been successful in implementing IMF recommendations. Total revenue for the year should reach US$930 million, including grants of US$35 million from South Africa and US$5 million from China. While the outlook was subject to political uncertainty, the IMF's base scenario projected real growth of 5 to 6 percent in 2010 and revenue of US$1.4 billion. The IMF had urged Biti to use this figure as the upper bound for the next budget. The projected increase in annual revenue mainly reflected poor performance in early 2009. Revenue measures in the 2010 budget should bring a net increase of US$35 million. The budget would increase levies on the under-taxed mining sector and also simplify the tax code to improve compliance. ¶9. (SBU) Biti had told the IMF team he had "no choice on SDRs," according to Kramarenko, and said the GOZ had decided to spend a portion of Zimbabwe's new allocation on economic stimulus measures. But Kramarenko said he had persuaded Biti not to use any of the SDRs to fund advances to the banking system. He said Biti had assured the IMF that US$200 million in SDRs would be used exclusively for infrastructure investments in the 2010 budget. Kramarenko urged donor missions to consider ways to finance social investments so that Biti could make a stronger case against using SDRs. -------------- BITI WANTS HIPC -------------- ¶10. (SBU) Depleting Zimbabwe's SDR account would complicate future efforts to achieve debt relief, Kramarenko said, since it would add to the GOZ's non-concessional debt. Yet Biti was "extremely interested" in pursuing debt relief under the Highly Indebted Poor Countries (HIPC) initiative and was looking for assurances from donors that they would support this. Gono, on the other hand, was skeptical of HIPC. During a recent visit to Beijing, Kramarenko reported, Gono had been advised to strengthen property rights and then rely on foreign direct investment to generate growth that would eliminate the debt overhang. But Kramarenko said there was no feasible growth rate that would do this: "That series does not converge." ¶11. (SBU) Kramarenko also noted other obstacles to the multilateral support the GOZ would need in advance of debt relief. There would have to be formal targets and Qrelief. There would have to be formal targets and monitoring, in the absence of which the RBZ would not provide data. The IMF would also need safeguards and sound governance arrangements at the RBZ. The new central-bank law currently being debated in Parliament did not reflect international best practice, Kramarenko said. It was not an improvement over the current law, even though Biti had "spent a lot of political capital" to negotiate it. -------------- HARARE 00000863 003 OF 003 IMF'S ADVICE FOR DONORS -------------- ¶12. (SBU) In addition to helping Biti find a way to avoid spending SDRs, Kramarenko said donors should also urge him to hold the line on wage demands. The public-sector payroll audit was another key step that should be completed as soon as possible. Cleaning up the payroll might be the only way to increase wages for civil servants who are actually alive and show up for work. Kramarenko also said donors should consider offering some financing from the World Bank's Multi-Donor Trust Fund. This would signal confidence and strengthen Biti's hand. Perhaps even more important would be restoration of Zimbabwe's voting rights at the IMF, which would hand Biti another victory. ¶13. (SBU) Kramarenko added that there might be merit in donors' signaling that a successful IMF staff-monitored program (SMP) would put Zimbabwe on course for debt relief. This could lessen resistance to HIPC from ZANU-PF ministers and show that there was "light at the end of the tunnel." But even if donors were ready to offer debt relief, Kramarenko expected an SMP would be difficult to negotiate and to implement. Provided there was a resolution to the current political impasse and no new obstacles arose, the team could return in January to start discussions on an SMP. -------------- COMMENT -------------- ¶14. (U) IMF engagement is a necessary condition for Zimbabwe's sustained economic recovery. (Establishment of policy credibility and commitment to rule of law and protection of property rights are also necessary conditions.) Some amount of debt relief will be essential, and the GOZ will need expert help for several years in order to build a credible policy framework. It takes two to tango, however, and Biti still does not have all the authority he needs to be a graceful dance partner. Gono continues to serve as the world's worst central banker, ZANU-PF ministers easily outmaneuvered Biti on SDRs, and the GOZ may still cave to unaffordable wage demands in the next budget. ¶15. (SBU) If Biti and his MDC colleagues find a face-saving compromise that allows them to re-engage with ZANU-PF, the time could be ripe for closer monitoring by IMF staff or additional technical assistance from donors, especially for the Ministry of Finance. Any step to improve the transparency of economic policy making and restore adult supervision at the RBZ will advance the causes of reform and economic recovery. END COMMENT. DHANANI