Zimbabwe Zimbabwe at a Glance: 2007-08

Country Report

Zimbabwe Zimbabwe at a glance: 2007-08

OVERVIEW With the president, Robert Mugabe, having overcome the growing divisions within the ruling Zimbabwe African National Union-Patriotic Front (ZANU-PF) and secured selection as its candidate for the March 2008 presidential election, the Economist Intelligence Unit expects him to win the poll. This reflects the power of incumbency and the inability of the international community to agree a strategy either to encourage him to retire from power voluntarily or to fully address the issue of widespread election-rigging that seems certain to occur in 2008. However, the ongoing economic collapse will continue to hang over the president and could still act as the spark to drive a more radical change in the current regime. Meanwhile, the economy will continue to contract, although we expect the massive economic decline of the last five years to slow in 2007-08, with real GDP forecast to fall by only 2.7% in 2007 and 1% in 2008. However, there will be no quick end to the current foreign- exchange shortages, inflation will remain very high and pressure on the exchange rate intense.

Key changes from last month Political outlook • In order to secure the nomination as ZANU-PFrs presidential candidate, Mr Mugabe most probably reached a deal with Emmerson Mnangagwa, his long-time heir apparent who has, however, recently fallen out of favour, to block an attempt by Joice Mujuru, the current senior vice-president, for the party to select her as its candidate. This has temporarily papered over the cracks in the party, though far from resolved them. Economic policy outlook • There has been no change to our economic policy outlook. Economic forecast • New data from the World Bank show that the governmentrs efforts to repay the IMF in late 2005 pushed down its levels of arrears and its external debt stock. However, since then, we believe that arrears have continued to mount again. This, coupled with revaluation effects due to the weakness of the US dollar on world currency markets, means that Zimbabwers external debt stock has continued to rise since 2005, despite only limited new lending. We forecast that it will reach US$4.8bn by the end of 2008. April 2007

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Zimbabwe 1

Outlook for 2007-08

Political outlook

Domestic politics Although the political and economic pressure has been steadily building on the president, Robert Mugabe, since the start of the year, he remains an extremely astute political operator, and by continuing to exploit the divisions within the ruling Zimbabwe African National Union-Patriotic Front (ZANU-PF) he ensured that the various factions were unable to unite to oppose his bid to be the partyrs candidate for the March 2008 presidential elections. Despite his advanced yearshe is now 83 years oldhe lives a fairly aesthetic lifestyle and should easily be fit enough to contest the elections, having now been selected as the partyrs candidate. The real question is whether the divisions within ZANU-PF and the ongoing economic collapse will undermine his election cam- paign and his ability to rig the polls sufficiently to ensure yet another victory. In order win the election the president looks set to follow several strategies. First, he will continue to clamp down on all forms of opposition to his regime. Despite growing dissent within the army and the police over pay and poor conditions, as shown in recent weeks a significant section of the armed forces and police remain loyal to the president and are prepared to use strong-arm tactics to help to suppress opposition activities. All key decisions are now made either by the president or through the Zimbabwe National Security Council (ZNSC), whose membership includes many current and former senior military officers who will not question his inflexible, hardline policies. Moreover, by launching a major crackdown on the opposition a year before the elections are due, he can severely undermine its effectiveness and then ease off the repression in the run-up to the elections, allowing it some limited campaigning opportunities but from an extremely weakened position, an approach that in the past has impressed gullible international election observers. Second, he will continue to play off factions within ZANU-PF to ensure that none becomes too powerful or ambitious. One long-standing approach is to play individuals off against each other, as in the run-up to the recent cabinet reshuffle, keeping politicians jockeying for senior positions within the party. He is also seeking to increase the number of parliamentary seats, a larger number of which he will appoint, which will provide him with greater powers of patronage. In addition, he is likely to use corruption charges as a political tool to divide party loyalties. Only once the election is won will the president even consider putting in place some sort of exit strategy, and even then he will not relinquish power until he is certain of guarantees that he will not be prosecuted for any crime on leaving office. A potential problem with this strategy is that of the ongoing economic collapse. With the rate of inflation at above 1,500%, widespread underemployment, and ongoing shortages of food and fuel, the speed at which living standards are declining means that even Mr Mugabers most stalwart supporters are questioning their loyalty. Coupled with the growing political repression, this could affect the political outlook in a number of ways. First, there is still the

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possibility that one of the various factions of ZANU-PF will eventually conclude that it must act if it is to remain a political force in the future. In this event, a faction could leave the party to contest the polls on its own ticket. If this were a powerful faction, such as that led by Joice Mujuru, the senior vice- president, and her husband, Solomon Mujuru, a retired army commander, it would have its own strong power base. This could create a new, fractious political landscape, in which the outcome of the 2008 elections becomes very uncertain. The most benign outcome would be that an inconclusive election leads to the establishment of a government of national unity involving various disaffected ZANU-PF factions uniting with the main opposition party, the Movement for Democratic Change (MDC). However, more radical outcomes are possible. Junior members of the military who feel increasingly alienated from their senior officers could stage some sort of coup. It is also possible, despite the deep repression, that the general population might eventually reach the point where it spontaneously rises up in opposition to the government, leading to potentially bloody clashes on the streets of various cities in the country. For this to happen, however, the opposition would have to show substantially more unity that it has to date and to provide strong leadership in the face of major government repression. At present, the MDC remains a deeply divided party, with one faction led by its long-time leader, Morgan Tsvangirai, more willing to consider this political route while the other, headed by Arthur Mutambara, but closely identified with Welshman Ncube, is expected to continue on the path of parliamentary opposition.

International relations Mr Mugabe has continued to reject any efforts at international mediation, and this serves to isolate the regime further at a time when it increasingly needs external financial support. The president is expected to maintain his anti- Western posturing on any international platform available and to argue that the extremely limited economic sanctions imposed against a small number of senior members of ZANU-PF are a major source of the countryrs economic crisis. This will continue to mean that there is little constructive dialogue with the government on how to end the current economic and political crisis, although donors will continue to ensure that the UN World Food Programme continues to distribute food aid in Zimbabwe to try to avert a complete humanitarian crisis. A real improvement in Zimbabwers relations with the US and the EU would be possible only if human rights abuses stopped and a credible transition towards the holding of "free and fair" elections began, neither of which is likely in the forecast period. The inability of the international community to resolve the crisis in Zimbabwe is compounded by the fact that other African governments, including Zimbabwers neighbours in the Southern African Development Community (SADC), continue to be divided over how to respond to it. Meanwhile, the government will continue to divide the international community by cultivating relations with East Asian states, led by China, as part of its "Look East" policy. This has brought some gains in terms of promises of investment and limited humanitarian aid, but these are insufficient to replace the major Western investors and donors that have been lost.

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Economic policy outlook

Policy trends With the publication of the most recent monetary policy statement by the governor of the Reserve Bank of Zimbabwe (RBZ, the central bank), Gideon Gono, in January 2007, it is clear that the National Economic Development Priority Programmeinitially outlined in April 2006, and the governmentrs seventh economic recovery programme in a decadehas, in effect, been abandoned. However, rather than making real decisions about the priorities for economic reform, Mr Gono has announced that he will push ahead with the implementation of a wide-ranging "social contract", to be implemented in two phases. The first phase will run up to June 2007 and is aimed at freezing all prices, wages, salaries, fees, interest rates and municipal charges, while also trying to curb the governmentrs quasi-fiscal operations, in order to try to squeeze the current high rate of inflation out of the system. With inflation under control, only then will the government tackle the more fundamental distortions in the economy, in the second phase, from June to December. The reality, however, is that the government will struggle to get business and organised labour to agree, never mind stick closely, to a draconian social contract. In addition, there are no real signs that the government is committed to the introduction of the fundamental reforms, led by fiscal consolidation, required to reverse the decline of the last six years. Instead, the recent policy announcements are further evidence that the government will simply continue to tinker with policy, hoping to limit the worst aspects of the crisis.

Fiscal policy Despite putting a positive spin on the 2007 budget, the former minister of finance, Herbert Murerwa, was well aware that in reality his options were limited by the ongoing collapse in revenue in real terms as a result of the continuing economic disintegration (despite the beneficial impact, up to a point, of fiscal creep caused by the high rate of inflation). In fact, the only area that might generate genuine revenue growth in 2007-08 is the mineral sector. Moreover, given the highly negative real interest rates paid on domestic debt and the lack of access to substantive foreign lending, the Economist Intelligence Unit expects that the government will increasingly struggle to raise enough from domestic debt markets to fund further deficits of the scale of that recorded in 2006, which we estimate was 11.3% of GDP. This will eventually force it to raise nominal interest rates in late 2007 and into 2008. Given the difficulty of raising revenue, we expect that the government will have to continue to rein in spending in real terms, pushing the deficit down to 8.4% of GDP in 2007 and 5.2% of GDP in 2008. However, this will mean that all government services, particularly healthcare and education, will continue to collapse in terms of the levels of service offered. One major problem with the governmentrs fiscal data in recent years is that they exclude lending to parastatals (often referred to as quasi-fiscal expenditure). Estimates of the scale of lending vary considerably, but in the 2007 budget it was estimated at Z$373bn (US$1.49bn), which put the fiscal deficit at around 50% of GDP. Although the central bank is in the process of establishing a subsidiary (to be called Fiscorp), and has stated that it will place an immediate cap on such payments while also ring-fencing the existing payments, which

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will then be collected gradually over the coming months, progress is likely to be extremely slow in the current political climate.

Monetary policy When Mr Gono last devalued the Zimbabwe dollar, in July 2006which was partly covered up by the subsequent redenomination of the currencyhe also announced plans to appoint a new Exchange Rate Impact Assessment Board to advise the government on future exchange-rate changes. This, he hoped, would help to convince the president that the exchange rate was hugely overvalued and needed fundamental devaluation. However, the decision not to devalue in early 2007 shows that Mr Mugabers adamant opposition to devaluation continues to be a major obstacle to exchange-rate reform. As a result, a further devaluation is now likely only in the second half of 2007. Even with this, the premium with the parallel rate will remain substantial and the ongoing foreign- exchange shortages are not expected to ease in the forecast period. Mr Gono will, meanwhile, turn his attention to trying to reduce inflation. To achieve this he has proposed a new social contract aimed at freezing all prices, wages and fees within the economy while clamping down on anyone apparently contravening the new controls. Whether this will be successful is unclear, but it is unlikely unless the government can rapidly bring its quasi-fiscal spending under control and food production starts to recover quickly. Neither seems probable and, of more concern, if the parallel exchange rate were to collapse, the government were to fail to rein in spending and the agricultural sector were to continue to contract, inflation could spiral out of control. However, it is more likely that the president will eventually countenance a devaluation of the official exchange rate in late 2007 and that the practical problems of financing the deficit will force the government to scale back spending. Coupled with a modest recovery in the agricultural sector, this means that inflation will remain high but will not spiral out of control, although it will fall back only slowly from late 2007.

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Economic forecast

International assumptions International assumptions summary (% unless otherwise indicated) 2005 2006 2007 2008 Real GDP growth World 4.7 5.3 4.7 4.6 OECD 2.6 3.2 2.5 2.6 EU27 1.7 3.0 2.4 2.3 Exchange rates ¥:US$ 110.1 116.2 114.0 103.0 US$:€ 1.246 1.256 1.329 1.353 SDR:US$ 0.677 0.680 0.658 0.646 Financial indicators € 3-month interbank rate 2.18 3.08 4.00 4.10 US$ 3-month Libor 3.56 5.19 5.31 5.15 Commodity prices Oil (Brent; US$/b) 54.7 65.3 61.0 58.0 Gold (US$/troy oz) 445.0 604.5 652.5 642.5 Platinum (US$/oz) 896.2 1,135.0 1,150.0 1,100.0 Food, feedstuffs & beverages (% change in US$ terms) -0.5 16.1 5.3 -2.0 Industrial raw materials (% change in US$ terms) 10.2 49.8 6.3 -14.2 Note. Regional GDP growth rates weighted using purchasing power parity exchange rates.

Although world GDP growth is set to slow to 4.7% in 2007 and 4.6% in 2008 (calculated on a purchasing power parity basis), it will still remain robust and compare favourably with the rates achieved for much of the 1990s. Apart from high global oil prices, which will be a problem for an economy with acute shortages of foreign exchange, developments in the world economy should benefit Zimbabwe. Notably, they will support a steady pick-up in economic growth in South Africa, Zimbabwers largest trading partner, and prices for many of the countryrs key exports, particularly gold and platinum, will remain high. However, economic developments will be much more strongly influenced by domestic economic policy, macroeconomic instability and the ongoing foreign- exchange crisis than by international economic developments.

Economic growth We expect that the massive economic decline of the last five years will slow in the forecast period. Whereas real GDP fell by an average of just over 6% a year between 2002 and 2006, we expect it to fall by only 2.7% in 2007 and by 1% in 2008. This reflects a number of factors. First, following recent changes to the exchange-rate regime, we expect some recovery in gold mining and base-metal production, as well as some growth in platinum mining, as existing mines increase production modestly. This, in turn, should drive a modest growth in exports. In addition, there is likely to be a slow rebound in food production, which will drive a moderate pick-up in growth in the wider agricultural sector, although any recovery in the sector will be constrained by the limited availability of inputs, the destruction of the commercial farming sector and the adverse impact of the countryrs HIV/AIDS pandemic. Any recovery will be held back by the ongoing collapse in private and government consumption. Local businesses are also likely to remain cautious. Most have already scaled back their operations and have developed techniques to

survive despite the difficult operating environment; they will start to expand their operations only once they sense that a real economic turnaround is under way and employment and consumption start to pick up. The service sector will remain constrained by the ongoing foreign-exchange shortages, the deliberate destruction of a large number of informal-sector businesses and dwellings in urban areas, and the lack of tourist arrivals.

Inflation The year-on-year inflation rate has jumped sharply since November 2006, to reach 1,730% in February 2007, having averaged 1,034% in 2006. The rise has been driven by the ongoing food and foreign-exchange shortages, the collapse of the parallel exchange rate and rapid money supply growth as the government has struggled to rein in its quasi-fiscal operations. However, despite the rapid rise in the inflation rate, it is still not clear whether inflation will spiral out of control in 2007. Although this is possible if the government loses control of spendingthe IMF recently forecast a rate of inflation in Zimbabwe of 4,279% in 2007we expect that the government will manage to retain a degree of fiscal discipline. However, with money supply growth remaining high and the falling parallel exchange rate still pushing up the prices of imports, the rate of inflation will remain high in 2007, averaging 2,248% for the year. Only in 2008 do we expect the rate to start to fall as the slow tightening of fiscal policy has an impact and food production shows some signs of a modest recovery. However, the rate of inflation will remain in triple digits, at 802%, in 2008.

Exchange rates Since the 60% devaluation of the Zimbabwe dollar in July 2006 to Z$250,000:US$1, followed by a redenomination of its value by a factor of a thousand, meaning that the new exchange rate was Z$250:US$1, the government has held the official rate at this level on the interbank foreign- exchange market (IFEM). With inflation at over 1,000% throughout the second half of 2006, this has once again made the IFEM rate hopelessly unrealistic and exports uncompetitive. As such, pressure on the parallel exchange rate was intense in the second half of 2006 and will remain so in the first half of 2007. However, with the ongoing foreign-exchange shortages and triple-digit inflation rates, we expect that the central bank will have to devalue the IFEM rate in the second half of 2007 and in 2008. Although we expect a devaluation, and forecast that the Zimbabwe dollar will average Z$2,396:US$1 in 2007 and Z$15,188:US$1 in 2008, it is possible that the government will put off any devaluation and instead offer special exchange rates for different groups of export earners. If it opts for this policy, it will multiply the number of exchange rates, something that has happened in the past, while not resolving the fundamental problem of competitiveness or relieving the foreign-exchange shortages.

External sector Following changes to the exchange-rate regime in 2006, we expect a modest recovery in gold production and platinum exports to take place in 2007-08 against a background of high world prices. Coupled with a rise in other metal exports, this should slowly push export earnings towards the US$2bn level by 2008, although the recovery will be constrained by the poor outlook for the tobacco crop and for non-commodity exports. With the modest fallback in oil

prices the cost of oil imports should fall, but the ongoing need for substantial maize imports to offset the shortfalls in domestic food production means that imports will remain high, even though we still expect the trade deficit to narrow. With no prospect of a significant recovery in tourism, we expect the services account to remain in deficit. The income account is also set to remain in deficit, even though the repatriation of profits and debt-service payments will fall substantially, reflecting the foreign-exchange shortages. This means that, on the invisible trade account, only the current transfers account will be in surplus, even though official transfers will remain low because of the lack of donor support. However, private transfers are expected to hold up as the estimated 3m Zimbabweans who live abroad continue to send money home to support relatives. With the trade deficit falling as export growth picks up, these trends should drive a modest reduction in the current-account deficit: after averaging approximately 10% of GDP in 2004-06, we expect it to fall to 3.9% of GDP in 2007 and to 3.4% of GDP in 2008. However, even if the foreign-exchange shortages ease slowly in 2007-08 from the acute levels experienced in 2004-06, they will remain a major problem.

Forecast summary (% unless otherwise indicated) 2005 a 2006 a 2007b 2008b Real GDP growth -7.7 -4.4 -2.7 -1.0 Manufacturing production growth 3.6 c -1.8 0.4 1.3 Gross agricultural production growth -9.5 -4.0 -1.0 2.2 Consumer price inflation (av) 266.8 c 1,033.5 c 2,248.1 801.7 Consumer price inflation (year-end) 585.8 c 1,281.1 c 2,161.4 309.8 Short-term interbank rate 235.7 c 496.5 c 224.0 231.3 Government balance (% of GDP) -1.5 -11.3 d -8.4 -5.2 Exports of goods fob (US$ bn) 1.6 1.7 1.9 2.0 Imports of goods fob (US$ bn) 2.1 2.0 2.1 2.1 Current-account balance (US$ bn) -0.6 -0.3 -0.2 -0.1 Current-account balance (% of GDP) -13.3 -7.1 -3.9 -3.4 External debt (year-end; US$ bn) 4.3 4.4 4.6 4.8 Exchange rate Z$:US$ (av) 25.32 c 162.07 d 2,395.8 15,187.5 Exchange rate Z$:US$ (year-end) 77.97 c 250.00 c 5,500.0 24,250.0 Exchange rate Z$:€ (av) 31.54 c 203.51 c 3,184.5 20,541.1 Exchange rate Z$:US$ (av; parallel market) 43.31 1,027.82 44,041.7 125,000.0 a Economist Intelligence Unit estimates. b Economist Intelligence Unit forecasts. c Actual. d In August 2006 the Reserve Bank of Zimbabwe redenominated the currency. After a 60% devaluation of the exchange rate to Z$250,000:US$1, it removed three zeros, with the new interbank rate set at Z$250:US$1.

Editors: David Cowan (editor); Pratibha Thaker (consulting editor) Editorial closing date: April 10th 2007 All queries: Tel: (44.20) 7576 8000 E-mail: [email protected] Next report: Full schedule on www.eiu.com/schedule