Market Report Fortnight ending January 1, 2002 Report 03/02

Foreign Exchange Reserves

The economy is experiencing a noticeable drawdown on its foreign exchange reserves with the position at the close of 2001 reduced to an equivalent of MKW13.66 billion, representing 4.2 months of imports. Whereas at a comparative month for 2000 gross reserves amounted to MKW19.46 billion, an equivalent of 4.7 months of imports and barely four months ago the reserves reached a high of MKW23.83 billion, representing 5.8 months of import cover. This position is mainly a result of a rise in the demand for foreign exchange during November and December against a reduction in supply. During this seasonal period, businesses were stocking for the traditional festive expenditure and agricultural planting season, while the economy was entering its cyclical lean foreign exchange period, mid-way between the end of one and the beginning of the next tobacco season. Latest figures indicated that as at January 28, gross official reserves stood at 3.42 months of import cover. The stem of FX from Donors, which generally starts to come through during this time, is also having an impact.

The recent developments in the foreign exchange market have seen the Kwacha slightly loosing its edge on the ZWD and the ZAR, but surprisingly remaining stable against the USD. Currently, the MKW is trading at an average of MKW1.26 to the ZWD compared to MKW1.24 registered at the beginning of January 2002. The performance of the MKW against the ZAR has been erratic. After gaining to MKW5.14 against the Rand towards the close of December 2001, the MKW has now weakened to around MKW6.14. Nevertheless, a slowdown in the demand for foreign exchange has to a larger extent cushioned the Kwacha against the USD. The MKW has since December 2001 been trading at an average of MKW68 to the USD. The indications are that this trend will continue in the short term.

Financial Markets and Interest Rates

There market is experiencing a sudden drop in the demand for the Reserve Bank of Malawi (RBM) bills on the market when bids for the paper during the auctions of 29 and 22 January 29 and 22 declined to MKW410.87 million and K539.18 million, compared to MKW1,229.65 million and MKW1,427.87 million registered during the auctions of January 14 and 8 respectively. Nevertheless, yields on this paper remain high as the 63 days tenor slightly increased to 46.29% from 46.27% and 46.52% from 46.21% for 91 days bills registered during the auction of 22 January. This notwithstanding, earlier indications by the monetary authorities to scale down the issue of the RBM bills will hopefully check the increase in yield rates during future auctions.

During the auction of January 25 bids for Treasury bills amounted to MKW314 million against the MKW250 million the government wanted to raise to finance its due debts. Out of this, only MKW205.4 million was issued, which was a deliberate move to abate previous increases in yield rates. Consequently, yields on all the tenors registered marginal declines. The 91 days bill decreased to 46.22% from 46.44%, 182 days dropped to 45.95% from 46.53% and the 273 days bill to 45.78% from 46.43% recorded during the previous auction. With the increasing need for MKW volume by the government, as indicated by the upward revision of the minimum requirement per auction from MKW150 million to MKW250 million, yield rates are likely to remain high with a view to attract more bidders.

Inflation

Severe maize shortages are exerting an upward pressure on domestic prices. This development will therefore reverse the downward trend in the inflation rate registered during the last four months of 2001. The inflation rate for December 2001 stood at 22.1% a positive improvement on 28%, 27.1% and 24.9%, 27.1% and 28.0% during September, October and November, respectively. The inflation rate declined during most of 2001 unlike during 2000 as a result of a strong Kwacha and tight monetary policy that prevailed during the year.

Global Economic Review

US Economy

The US Federal Reserve FOMC left its benchmark Federal Funds Rate unchanged at the 40-year low of 1.75%, further highlighting promising signs of a turn around in the US economy. Earlier in the week, the Government reported a surprise 0.2% rise in fourth quarter Gross Domestic Product (GDP) against a market wide anticipation of a 1% downturn on an annualized basis. This upsurge was fuelled by a remarkable jump in consumer spending. However actual growth for the quarter was a statistically insignificant at 0.05%. In the next few months, it is anticipated that Fiscal policy will have a significant impact on the growth prospects. The Congressional Budget Office has downgraded its expectations for the budget and a deficit this fiscal year is likely for the first time in five years.

The Federal Reserve Bank has warned against additional easing of fiscal policy, which heighten concerns over a widening budget deficit and raise the possibility of the Federal FOMC increasing interest rates more quickly than expected. There are, in addition, fears that the loss of confidence in U.S. corporate accounting practices following the power giant Enron/Arthur Andersen debacle could subsequently hamper foreign investment in the United States, which may result in a protracted economic recovery.

Euro Zone

The figures from the Euro-zone for the fourth quarter of 2001 were marginally more robust than anticipated, albeit with confidence in the economic grouping waning further. The December consumer price inflation figures, on the other hand were slightly worse than expected with a 2.1% upturn over the year and there will further concerns that the January figures will also be poor. More so if the launch of Euro currency causes an increase in price levels. An unimpressive figure for January would make it more difficult for the European Central Bank to cut interest rates. Officials have adopted a cautious tone, in their commentary in recent weeks, over the prospects of further cuts.

International Currencies

The USD has remained the preferred currency, despite the woes of the economy, in recent months. Due largely to the fact that there has long been pricing in of an early recovery in the U.S. economy by the market, which has held the dollar stubbornly near 15-year peaks in trade weighted terms right through the recession.

The dollar however still has to contend with potential difficulties posed by the current account deficit, particularly in view of the fact that the stresses within the US corporate sector will to some extent impede the US’ ability to attract foreign funds.

The Euro on the other hand has the important advantage of being aided by a balanced current account position and an absence of structural imbalances, which will prove significant if US recovery hopes, falter. The Euro-zone capital account should also be supported by central banks increasing their Euro reserves. There are however persistent fears of long-term capital outflows from the Euro-zone over the next few months, especially if there is evidence of a recovery in the US economy. This will tend to be negative for the Euro in the short term, but this caution should be neutral to slightly positive in the medium term.

Emerging Markets

South African Markets were rattled by news on January 29 of a worrying leap in consumer price inflation during December, which reinforced expectations that the central bank may raise interest rates again in 2002. The Reserve Bank, in a surprise move hiked its key repo rate by 100 basis points to 10.50% two weeks ago, in what it described as a pre-emptive strike against the inflationary pressures emanating from the ZAR's steep devaluation in the final weeks of 2001. In recent weeks, the ZAR trading has remained a tight range of ZAR11.30 – 11.60.

Further north, the announcement by mining giant Anglo-American of its decision to abandon Zambia’s copper industry is likely to lead to a fall in hard currency earnings, which might further unsettle the local ZMK and make Zambia more dependent on foreign aid, which already accounts for about half the state budget. Copper exports account for about 85 percent of that country’s annual foreign cash earnings and Anglo-American mines produce up to two thirds of total production.