Peg Doubt

In early May 2012, a decision was taken to end the practice of pegging the Malawian Kwacha to the US dollar, instead allowing the exchange rate to be determined in the foreign exchange market. There were some good reasons for abandoning the currency peg – not least because it was a precondition for international aid payments – but what supply chain effects would the new floating currency have?

When you adopt a floating currency, a reasonable supposition is that it will actually float. Bobbing up and down between known limits is acceptable behaviour for a floating currency: sinking like a stone, less so.

Origami boat made out of Euro banknotes

A floating currency?

By the time the new president (Her Excellency Dr Joyce Banda) ended the currency peg, the Kwacha was substantially overvalued. Imports were growing faster than exports, and even while the peg was in place there was a thriving black market in foreign exchange. Downward pressure on the Kwacha was made worse by what economists call depreciation: a fall in the unofficial value of the currency.

On May 7th, the pegged rate of 165 Kwacha to the US dollar ended, and the rate slipped at once to more than 250. This led to panic-buying – and why not, when imported goods are seen to become more expensive overnight? As hard-working and inventive as the Malawians may be, there’s simply no way for an agrarian economy to react quickly to the price of virtually all manufactured goods going up by a third, or more.

BBC News of panic buying as the Kwacha is devalued

May 7th, 2012: Devaluation begins [BBC News]

In October of that year, Malawi Institute of Management asked us to organise a seminar discussing the implications for the supply chain. Understanding these economic issues wasn’t an easy task, given that I was (a) visiting the country for the first time, and (b) a manufacturing engineer, not an economist. Still, I reasoned that a seminar is all about listening, not telling. We had a marquee full of supply chain professionals, and a couple of hours to put the world to rights. (Or at least, the economy of one small nation.)

The seminar involved a number of activities, the first of which was listing the advantages and disadvantages of having a floating currency… but it seemed that the audience were still smarting from the sudden removal of the currency peg: they had nothing good to say about the floating currency. (Bear in mind that anybody who had savings in the bank will have seen them reduced in value, and businesses that had liabilities expressed in US dollars would be finding it desperately hard to service their debts.)

Economic theory says that a currency peg is good in that it increases investor confidence and imposes price discipline (at least until the point when the government ends the practice) but the disadvantage of a fixed exchange rate is that it requires vast stocks of foreign exchange. Basically, the core job of the central bank is to maintain the currency peg: there is limited freedom to address domestic economic priorities. Also, when the International Monetary Fund suspends a major aid programme, suggesting that liberalisation of the foreign exchange market would unlock donor cash… that’s a powerful argument in favour of the floating currency.

So, on May 7th 2012, everything changed. At our seminar, we learned from the delegates exactly what the changes meant for supply chain professionals…

The Difficulty of Budgeting

Budgeting was reported to have become virtually impossible. For example, the budget for a government department had to be planned such that payments could be released throughout the year, but exchange rate changes meant that any sum set aside for purchases in subsequent quarters was likely to be inadequate. This tended to force managers to be reactive, rather than proactive. Long-term plans involving cash flows have very limited value during a time of high inflation, the delegates said.

Procurement Complexity

This was reported to be particularly difficult, since a request for quotation was likely to produce a time-limited offer, often being valid for as little as 24 hours, because suppliers were equally inconvenienced by variable exchange rates. Where an organisation’s purchasing procedures require that three quotes are obtained it was virtually impossible to get all three within the same 24-hour period, and impossible to compare them thereafter, since one or more would have expired… at which point the quotation process had to begin again.

Transportation Difficulties

Delegates reported logistics to be tremendously more complicated as a result of scarce supplies of petrol, and in particular diesel. (Fuel was also reported to be a problem for the construction industry.) This is not merely an issue of high price, but one of availability, with fuel at times not being available at all… or of those who have fuel choosing not to sell it, since they seemed not to want the Kwacha that they would obtain in return. Transportation difficulties were thus compounded by increasing prices in the global market, reduced local buying power, and panic buying. The result – reduced transportation capability – further impacted upon trade, and thus harmed the economy.

Warehousing Issues

This was frequently mentioned by delegates, in the context of preferring to stockpile raw materials or supplies in order to offset price increases by buying early, and in bulk. Some delegates mentioned the danger of spoilage rates increasing as a result of inventory levels being increased, however.

Inability to Save

It was felt to be very difficult for families to set money aside to deal with price fluctuations (for example, by buying in bulk), at a time when any unspent money was liable to be reduced in value if it wasn’t spent immediately. This “living in the now” made major purchases harder to save up for, and was consequently bad for the nation.

Falling Incomes

Some delegates discussed industrial unrest caused by increased wage demands resulting from devaluation. After all, if you only get to renegotiate your salary once a year or so, how do you know how much to ask for?

The Situation Today

The slide of the Kwacha continues. As an occasional visitor, I notice it in things like a laundry list that has a sticker on it, replacing the printed prices with updated ones… and a heftier price for a bottle of Carlsberg ‘Green’.

Value of the Malawian Kwacha over the last 5 years

MWK/USD exchange rate over the last five years [xe.com]

It’s not hyper-inflation of the kind that some nations have demonstrated: you don’t need a shoebox full of banknotes to pay for lunch, as was the case in Zimbabwe recently. Demonetization of the Zimbabwean dollar came to an end in September this year, at an exchange rate of 35 quadrillion Zimbabwean dollars to US$1… which at least has the virtue of being educational: I learned how many zeroes there are in a quadrillion. (If you’re interested, a quadrillion is 1,000,000,000,000,000.)

Sweeping up unwanted currency

The Hungarian Pengö performed even worse than the Zimbabwean Dollar, and by 1946 they were nothing but litter.

Wherever it is found, though, a softening currency is a headache for supply chain professionals, and a burden for families… and I don’t have many answers to offer. “Export or Die” might have been the advice of the British Ministry of Information, back in 1946… but what do you do when your principal export is the increasingly unfashionable tobacco?

We shall see.

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