The Gold Standard: Can it reduce inflation in Zimbabwe?

07 Jul, 2021 - 00:07   Abigail Vimbai Kaplin

The past can interpret the future . . . let’s take history to solve current problems. Can the Gold Standard solve today’s problems? Yes.

Understanding the Gold Standard means dating back to the history. Gold Standard is a monetary system in which a standard unit of currency is a fixed quantity of gold or is kept at the value of a quantity of gold.

The Gold Standard was first put into operation in the UK in 1821. It was at the same time silver had been the principal world monetary metal; gold had long been used intermittently for coinage in other countries.

In the full Gold Standard that prevailed until 1914, gold could be bought in or sold in unlimited quantities at a fixed price in convertible paper money per unit weight of the metal. The reign of the full Gold Standard was short, lasting only from the 1870s to the outbreak of World War 1.

That war saw restrictions on gold export in nearly every country. By 1928, the Gold Standard had been re-established although, there was relative scarcity of gold, most countries developed a gold exchange standard in which they supplemented their central bank gold reserve currency with US Dollars and British Pounds.

However, another worldwide shock of 1930 — the Great Depression saw not a single country remained on full Gold Standard by 1937. It is apparent that the US, however, set a new minimum dollar price for gold to be used when purchasing and selling by foreign central banks.

This action was known as pegging the price of gold, provided the basis for the restoration of an international Gold Standard after the World War 2. Notably after this war, most exchange rates were pegged either to the USD or to gold for international payments —  Gold Standard of currencies convertible to dollars and gold for international payments in 1956.

However, by 1971, the gold reserves began to dwindle and the free conversion of dollars to gold at a fixed rate for exchange in external payments was brought to an end and the dollar and other paper currencies were brought into force.

“We have Gold because we cannot trust governments,” President Herbert Hoover famously said in 1933 in his statement to Franklin D Roosevelt. This statement saw a shift in the financial history by the emergence of Emergency Banking Act, which forced Americans to convert their gold coins, bullion and certificates into USD.

Gold has a unique asset class which countries then and now acknowledge its influence on the supply and demand market. Though the Gold Standard has been neglected under the auspices of lack of trust, modern States or developed countries behind the curtain still acknowledge the Gold Standard as a way to keep reserves. Though it was replaced by Fiat money, some nations still struggle to have its money recognised or the teeth of inflation still bites it.

Lets move to the current situation . . . the Problem with Zimbabwe is inflation. The new question is that — can it survive the shackles of inflation by using the Gold Standard? According to Zimbabwe statistics inflation stood at 10,6 percent in 2018 and it was projected to jump dramatically to 577,21 percent in 2020. According to the reserve Bank statistics by January 2021 it stood at 362,6 percent though measures put in place have managed to reign it in.

Let us turn to the real facts in Zimbabwe:

The country has no enough foreign exchange reserves to support its currency.

The country still has to improve on industrial machinery, technology and make sufficient electricity supplies and be able to produce goods that are competitive enough for the international markets.

The country has a deficit in balance of payments and a shortage in foreign exchange

The exchange rate of local currency is at the mercy and whims of speculators, detractors and agents’ provocateurs.

Zimbabwe has failed to get sufficient support from international financial institutions to make the exchange rate stable.

Zimbabwe is one of the highly mineralised countries in the world. Yet in spite of these challenges, the country can still have a stable exchange rate. The gold standard history mentioned earlier better explains Zimbabwe’s solution in the next years. The countries we can now name “developed” used the gold standard at a critical stage in their economic growth especially in the 19th Century. Let us talk about Belgium, Germany, France, Russia, Italy, US, Portugal and Canada. However, China used Silver which went perfectly well with them because they have limited gold resources.

Zimbabwe occupies a place of pride because of its veritable source of gold. Just three years ago the Reserve Bank governor Dr Mangudya boasted that Zimbabwe has the second largest gold reserves per square kilometre in the whole worldwide with 13 million tonnes of proven reserves with 580 tonnes having  been exploited since 1980.

By 2023 it will be able to produce a 12 billion dollar gold per annum.The answer to inflation in Zimbabwe is to put Zimbabwean dollar on gold standard with special adaptations (the how part) is quite critical and will be highlighted later.

The country has more than enough gold to make it work. The gold standard will represent a home grown solution needing no external intervention. The implementation will certainly show Zimbabwe is a special place of pride because of its abundant gold.

The impact of putting the local currency on the Gold Standard:

The US:Zim Dollar rate will be fixed at a desired exchange rate and it will be maintained by deliberate official control

Prices will come down. This is called deflation. It will serve a purpose of correcting the unjustified inflation

The political bar in a country will be raised — unstable internal politics will vanish. Confidence in the Government and the banking system will return.

Macroeconomic stability will return and this will attract both local and foreign investment and in return fuel economic growth

It now rests with the Government to counter inflation since they enjoy the monopoly of printing money. The RBZ will not have to print more money because the current stock of cash will increase.

There will be more money in circulation and it will eliminate cash premium over electronic money

Hoarders and traders will submit more to the new financial system

The (How part) highlighted earlier comes into play here — What it means is a Gold Standard system provides money that no one can create at will, a money that people can trust. The USD provides all that in Zimbabwe since it cannot be printed locally.

The USD can be a store of value but not for long but the Gold Standard can stay if we continue to produce more gold annually but it starts when Zimbabwe accept US dollars as cash then move to the Gold Standard later. Zimbabwe is already operating at a quasi-gold standard since its inflation has dropped to 161,9 percent in May this year.

Secondly in March 2020, there was a widespread belief that the Government along with other African states want to partner with Apollo Fintech as their partner in launching digital currencies. The CEO of Apollo Fintech had confirmed they were working with the country on a gold backed coin. This can be a breakthrough in the financial system of not only Zimbabwe but other African countries.

The former US President Donald Trump and the famous economist Judy Shelton even asked for a new Bretton Woods Conference just to initiate the return of the Gold Standard and since 2011 at least six States have passed laws recognising gold and silver as currencies.

On a greater scale, the Gold Standard has its own advantages for Zimbabwe. Under a Gold Standard, the temptation to over-inflate is allegedly absent that is, gold cannot be “created out of thin air.” It would follow that a return to a Gold Standard would be the only way to guarantee price level stability and greater economic stability. Developing countries need to improve on infrastructure for reserves and align their policies accordingly to return to a full Gold Standard.

Abigail Vimbai Kaplin/Masters student at University of Zimbabwe studying International Trade and Diplomacy

https://www.herald.co.zw/the-gold-standard-can-it-reduce-inflation-in-zimbabwe/