Denny H. Kalyalya Deputy Governor – Operations Bank of Zambia June 17, 2008

1. Bank of Zambia CURRENT ISSUES IN THE MANAGEMENT OF THE EXCHANGE RATE AND INFLATION Denny H. Kalyalya Deputy Governor – Operations Bank of Zambia June 17, 2008 1

2. Presentation Outline Bank of Zambia • Performance of the Economy • Factors responsible for recent appreciation • Implications of the exchange rate appreciation • Inflation • Recent Developments in the exchange rate • Conclusion

3. Performance of the Economy Bank of Zambia • The economy has performed relatively well in recent years: • Positive GDP growth; • Low inflation; and • Declining lending interest rates • Relative exchange rate stability. • Focus of Discussion is on Exchange Rate Developments 3

4. Developments in the Exchange Rate Bank of Zambia • Prior to 2003, Kwacha experienced persistent depreciation. • Exchange rate of the Kwacha against major foreign currencies has generally appreciated since 2003. • Contributing factors include: • Introduction of IFEM; • Improved supply of foreign exchange due to a better performing external sector; and • Increased foreign investment flows. 4

5. Introduction of IFEM In July, 2003, BoZ launched the broad – based Interbank Foreign Exchange Mechanism (IFEM) IFEM has brought a number of benefits including: Improved availability of foreign exchange on the market; Better information flow among market players; Elimination of multiple exchange rates; and More efficient and transparent allocation of foreign exchange. Bank of Zambia 5

6. Trends in Exchange Rate Volatility Bank of Zambia • IFEM has led to significant reduction in the exchange volatility. • During the period 1964 - 1983 (fixed exchange), the exchange rate was relatively stable with a coefficient of variation of 36 (Chart 1). • Between 1983 & 1994 (auction system), volatility increased - coefficient of variation rose to 186 (Chart 2). • 1994 to 2002 (liberalization) - coefficient of variation reduced to 60 (Chart 3). • Under the IFEM (2003 to date), the coefficient of variation decreased further to 11 (Chart 4).

7. Trends in Exchange Rate Volatility Bank of Zambia CV = 36 7

8. Trends in Exchange Rate Volatility Bank of Zambia CV = 186 8 8

9. Trends in Exchange Rate Volatility Bank of Zambia CV = 60 9 9

10. Trends in Exchange Rate Volatility Bank of Zambia CV =11 10 10

11. Improved External Sector Performance Bank of Zambia • The external sector performance has improved significantly. • Contributing factors include: • Increased metal and NTE earnings (Chart 5) • Savings from lower debt service • Enhanced post – HIPC Initiative investment flows • Copper output rose by 101.6% between 2000 and 2007 while earnings from NTEs tripled.

12. Improved External Sector Performance Bank of Zambia

13. Increased metal and NTE earnings Bank of Zambia Trade Statistics 13 13

14. Major Non-Traditional Exports (C.I.F.) 2001–2007, in US $’ Million

15. Lower Debt Service Enhanced HIPC Initiative completion point attained in April 2005. Debt cancellation resulted in drastic reduction in Zambia’s external debt stock. Debt stock decreased to US $2.1 billion at end-2007 from US $7.3 billion as at end-2001. Led to lower demand for foreign exchange (Chart 6). Bank of Zambia 15

16. Debt Service Bank of Zambia

17. External Reserves Position Bank of Zambia • Country’s external reserves have improved. • Gross International Reserves have increased to over US$1.0 billion at end-December 2007 from $116.5mn at end-2002. • As at May 31, 2008 GIR amounted to US$1,330 million. • Commercial banks foreign currency deposit liabilities have followed a similar trend (Chart 7).

18. External Reserves Position Bank of Zambia Chart 7: International Reserves and Foreign Currency Deposit Liabilities, 2002 - 2007

19. Increased foreign investment flows Bank of Zambia • The improved investment environment in the economy has resulted in: • increased inflow of foreign direct and portfolio investments, particularly in: • in the mining sector; and • portfolio investment in the Government securities market (Chart 8). • Leading to increased supply of foreign exchange.

20. Increased foreign investment flows Bank of Zambia

21. Portfolio and Direct Investment Bank of Zambia 21

22. The Role of BoZ BoZ’s role is more of: Monitoring; and smoothening fluctuations. In 2007, a total of US $141.9 million was purchased against sales of US $88.5 million. In 2008, BoZ has so far purchased US $50.5 million against sales of US $28.5 million. Net purchases indicate excess supply. GIR……. Bank of Zambia 22

23. Implications of the Exchange Rate Appreciation Bank of Zambia • Employment and wealth creation • Improvement in real wages; • Improved Productivity; • Loss of export competiveness; and • Current Account Effect.

24. Inflation Developments End-2008 inflation target is 7 percent. Terms of trade projected to be 8.7 percent. Reserve Money and broad money projected at 11.5 percent. Recent inflation trends are above the projections. Effect of food prices on inflation is consistent with past trends. The inflation challenge remains for Zambia, as in other countries, in the face of high global oil rising food prices and power outages. The relative stability in the Kwacha exchange rate against major traded foreign currencies is expected to moderate inflationary pressure. Bank of Zambia 24 24

25. Conclusion Recent developments in the foreign exchange rate are market driven. There is need for stakeholders to develop mechanisms for managing fluctuations. BoZ is committed to ensuring that the exchange rate remains relatively stable. Bank of Zambia 25

26. Recent Developments: Should BoZ Fix the Exchange Rate Bank of Zambia

27. Bank of Zambia THANK YOU 27 27