A looming recession

At one point, not more than five years ago, Malawi was said to be one of the fastest growing economies in the world.

Since then, however, one can clearly see two major worrying developments in our economy: a dip in production output—a classic example being that of Unilever Malawi Limited; and relatively low levels of real income (defined as income that can give one purchasing power, after taking into consideration the effects of inflation)—reflected in newspaper headlines like ‘Tough times trigger strikes… as inflation hits hard’ (The Daily Times, August 2 2012).

Given this background, and with a simple analysis of some of the policies that have been put in place recently, one is bound to ask: Are we deliberately creating a recession? Simply put, a recession is a period of a general slowdown in economic activity.

First, in May this year, our currency was devalued by almost 49 percent against the world’s major currencies.

Traditionally, devaluation has been used as a tool for generating foreign exchange—currencies of other countries. Foreign exchange is important to us; it helps in bringing in important inputs for our economy like fuel, fertiliser and so on, all of which are priced in foreign currencies.

The assumption behind devaluation is that by devaluing your currency, you increase your exports—and consequently, foreign exchange earnings—by selling price-competitive goods and services on the international market.

However, devaluation has not helped much. For instance, besides braving dwindling export selling prices, a tobacco farmer will also have to invest more kwachas than before to produce one United States dollar worth of tobacco. A combination of these two factors will see output from the tobacco industry, our biggest industry, going down.

Again, it is a fact that devaluation has not improved our foreign exchange; some donors have. In his article ‘Local companies face bankruptcies’ that appeared in The Nation of August 6 2012, Dumbani Mzale notes that commercial banks are facing some liquidity challenge (whereby commercial banks have more foreign cash and less kwacha), and that this will lead to most companies being bankrupt locally. Is this not an ingredient for a recession?

Second, just recently there has been an increase in interest rates—amounts which are charged (by commercial banks) for the use of their money (by individuals, organisations).

Basic economics prescribes interest rates as a tool for controlling or initiating growth in an economy. To control growth, interest rates are raised—expensive finance (bank loans) means business activity is stifled. On the other hand, to initiate growth, interest rates are lowered—cheaper finance (bank loans) means business activity flourishes.

Central banks, basically understood as regulators, dictate interest rates. A simple understanding is that commercial banks lend out depositors’ money to others, and get income from interest rates they charge such borrowers. Therefore, one cannot fault commercial banks for charging interest rates so high—they are in business.

Ironically, however, interest rates have been raised during the time when the opposite would make a lot of sense.

Adding flesh to the point above, one of Malawi’s most decorated entrepreneurs, Mike Mlombwa, is quoted in an article by Thom Khanje titled ‘Lending rates as good as katapila’ which appeared in The Daily Times of July 27 2012 as saying: “Business is the country’s engine for growth. But the private sector cannot grow with lending rates as high as 40 percent”.

At this point, two mind-boggling issues stand out. One, the wrong use of tools of economics (i.e. devaluing the kwacha—and leaving it to float—as a condition to start getting donor aid, and raising interest rates while we are still in a recovery mode), and two, the wrong combination of strategies (i.e. raising interest rates when both organisations and individuals have not yet recovered from the effects of devaluation).

Given the scenario above, one can safely conclude that the policies we have adopted are taking our economy into a recession.

One just needs to look at the low levels of real income (look at all these industrial strikes), diminishing trading activity, rising unemployment rates, and inflation (a general increase in prices and fall in the purchasing power of money) to see that our economy is gradually plunging into a recession.-The author is a regular commentator on socio-economic issues.