Devaluation of the yuan has a severe impact on currencies such as the rand – which may also devalue – and become volatile

Michael Tichareva

Financial infrastructure comprises government-managed financial institutions such as a central bank, as well as privately owned market institutions, networks and shared physical infrastructure that enable the effective operation of financial intermediaries, the exchange of information and data, and the settlement of payments between wholesale and retail market participants.

A sound and efficient financial infrastructure promotes financial stability and is a pre-requisite for the successful operation of modern integrated financial markets and economic development. Africa has one of the world’s least developed integrated financial systems.

The lack of a common currency across Africa makes integrated and seamless financial transactions more complex and challenging. This depresses economic trade amongst countries.

The Africa Free Trade Agreement signed in 2020 is a great development that may be well-timed, but a single currency may still be required to promote seamless and efficient trade among African countries.

Lack of liquidity in the financial system

The majority of Central Banks and commercial banks in Africa lack liquidity to sustain a vibrant and healthy flow of capital to the market, and to meet financial requirements of African economies.

Commercial and project finance lending is low due to the lack of liquidity, as banks often have limited capital available to make new loans for businesses, governments or important large-scale infrastructure projects.

Most central banks seek to reduce obligations, while still raising more capital from public markets to meet government operating budgetary expenditure, which is often consumption-based.

 

 

The focus should be on capital expenditure towards infrastructure to support sustainable economic development.
Central Banks also need to build up foreign currency reserves.

Most countries are estimated to have a six-month supply or less of required foreign currency reserves to meet import requirements, yet foreign currency reserves are necessary to purchase critical imports for industrialisation and economic development.

Impact of China’s currency devaluation policy on Africa

China is an active and important investment partner to Africa, and a major importer of commodities from the continent.

However, over the years, China has been devaluing the Chinese currency – the Yaun.

This ensures that Chinese exports are cheaper and more attractive compared to those of other nations.

This devaluation depresses commodity-based revenues across the African continent, as China may also seek to influence the reduction of US dollar-based commodity prices to pay less under the devalued Yuan. Commodity supply and demand factors may negate this risk, but the risk remains.

 

 

Devaluation of the Yuan often has a severe impact on commodity-based currencies such as the South African Rand, which may also devalue, and become more volatile. This puts more pressure on the African financial markets.

Devaluation of Chinese currency may also make US dollar lending from Chinese banks into Africa more difficult as the Chinese banks have to pay more in Yuan for the same US dollar amount.

China’s devaluation policy, alongside other policy measures to stabilise the Chinese market through economic cycles, leads to Chinese investors becoming more careful in investing outside China.

This slows down financing of major projects outside China, which affects most African countries.

Solution – Financial sector development

Financial sector development focuses on overcoming costs incurred in a financial system, and creating efficiency.

The process of reducing costs of acquiring information, enforcing contracts, and making transactions is expected to result in the emergence of financial contracts, more liberal financial markets, and the existence of efficient and effective intermediaries to promote and broker financial transactions.

African governments, therefore, need to concentrate more on financial sector development and integration of African economies.

The African Union policy on regional integration and industrialisation should consider the need for financial sector development.

 

 

Institutions such as the African Development Bank already have financial sector development as a key strategic objective and have tools and frameworks designed to achieve this objective.

However, they should play a more active and visible role in practice.

Alongside financial sector development, financial market players in African markets, which include central and commercial banks, should also be actively involved in roadshows, reaching out to international capital markets to raise capital.

In doing so, they should insist on more favourable financing terms to avoid expensive debt that often leads to regressive economies as opposed to progressive economic development.

It is on record that African governments need to raise hundreds of billions of dollars for infrastructure investment.
At least half of this will need to come from foreign capital markets due to Africa’s underdeveloped financial markets.

However, attracting such capital requires sound and efficient financial markets backed by sound and consistent policies to gain credibility and confidence from foreign investors. This should be an area of focus for countries such as Zimbabwe as they implement economic reforms.

Michael Tichareva is the Managing Director of National Standard Finance Africa and the Executive Chairman of its affiliate, Claxon Actuaries. He can be reached on mtichareva@natstandard.co.za or michael.t@claxonactuaries.com

 

 

 

 

 

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