The recurrent cause of Ethiopia’s forex crunch ranges from declining export performance to increasing imports; from declining net official public and private capital to stagnating individual transfers, writes Abdulmena Mohammed (email@example.com), a financial expert with 15 years of experience.
The Ethiopian economy has not in recent years been battered with as severe a shortage of foreign currencies as now. The situation has exasperated to the point where factories have been forced to operate under capacity, crucial medicines are disappearing from pharmacies and many goods are not found on shelves of supermarkets. The amount of international reserve has dwindled. It only covers 1.8 months of imports by the end of the last fiscal year.
There are many indicators that the scale of the problem has reached a critical stage, where the government is forced to take every measure that could reduce foreign currencies’ usage. The measure has gone as far as reducing the size of newspapers that go to the state-owned printing house, Berhanena Selam Printing Enterprise.
It is obvious that foreign exchange shortage has been a recurrent problem over the years. And the root cause is complex. It ranges from declining export performance to increasing imports such as capital goods and petroleum; from declining net official public and private capital to stagnating individual transfers.
The government has employed every tool in its armoury to tackle the problem. Employment of conventional tool to boost foreign currency earnings has not bore fruit. The Birr was devalued by 15pc against a basket of currencies in October 2017 to boost the poorly performing export revenue. Yet, the export performance seems unresponsive to such measure, whereas the cost of imports has escalated as feared. The promised benefits from devaluation have remained elusive.
The problem has increased its intensity partly as a result of the political instability that has engulfed the country. The instability has particularly hit remittances and cash purchases by banks. The purchase by forex bureaux of commercial banks has dropped by 6.8pc and 6.4pc during the two previous fiscal years.
Demand for foreign currencies in informal markets has gone up due to political instability. As a result, the gap between official exchange rates and parallel market rates has widened.
The exchange rate of the dollar in the informal market is higher than the official rate by about 25pc, which has not been observed in decades. The more the gap widens, the more people use informal means to send money home from abroad, for sale in the informal markets. This deprives banks foreign currency earnings which they use to bring in through money transfers and cash purchases. Political measures to instil stability and cracking down on informal market will bring remittances and purchases back on track.
Recently, 300 million dollars have been released by the Commercial Bank of Ethiopia (CBE) to importers working in priority sectors. The news of the release has been all over the media. It seems that the intention is to send a signal that there are adequate foreign currency reserves.
Unfortunately, the market remained unyielding for the signalling. Note that one billion dollars was released a year ago with much hype. It failed to bring calm to the market. Such signalling brings clam to the market in an economic atmosphere when irrational paranoia prevails. Signalling does not help an economy that has been afflicted by many maladies though.
It is fact that Ethiopia’s economy is troubled by a shortage of foreign currency and it is in a position where it cannot be calmed down by the sudden release of dollars. The economy needs a workable solution. This requires looking into every line of the balance of payment account and coming up with strategies to improve them.
Apart from encouraging export, working on remittances and prioritising capital outlays, there is a major area of balance of payment that needs adequate attention. One of these areas with sizeable impact is external commercial loans.
The past decade is marked by bloating of government and state-owned enterprises (SOE) foreign debts. Out of the total external debt, a considerable portion has been taken on commercial terms – that is high-interest rates with short maturity periods. These loans have been taken out to finance infrastructure, sugar, rail and other mega projects with limited foreign currency generation potential.
Commercial debt stock reached 6.4 billion dollars last year, according to the National Bank of Ethiopia (NBE), which is 27.4pc of total external debt stock. Despite the considerable increase in foreign direct investment (FDI) and private sector long-term capital in the past couple years, the balance of capital account dropped by 17.5pc because of reduction in net official. Public long-term capital dropped by 3.67 billion dollars. This must have been due to the slowdown in receipt of external loans and increased payment on external debt principal and interest.
Payment of principal and interest went up by 25.5pc to 1.2 billion dollars between 2015 and 2017. Various media have reported that SOEs have made payment of 552.8 million dollars in the past nine months to their lenders. It will not be long that funds disbursed from fresh loans will be consumed by repayment of existing ones. When more principal and interests of commercial loans are due for repayment soon, the demand for foreign exchange will increase. This will escalate the problem further.
Commercial loans have implications on balance of payment. For an economy which relies on very precarious foreign currencies earnings, their impact is serious. These types of loans require significant payment periods, mature in relatively short time and their terms are strict.
It is understandable that international institutions are pushing the government to reduce the use of concessional long-term and cheap bilateral and multilateral loans and shift to commercial debts. Yet, the government should be very cautious when dealing with such financial instruments.
There are areas where commercial loans may bring benefits. But using external loans for some projects could be unwise.
A one-billion-dollar euro bond with a ten-year maturity period was issued a few years ago mainly to finance projects such as in sugar. Similarly, massive external loans have been taken to fund rail projects. What characterizes these projects are that they chiefly generate cash flows in Birr over a long period of time whereas their debts should be repaid in foreign currencies in far shorter periods with huge periodic interest payments. These currency and cash flows misalignments cause serious strain on capital account of the balance of payment.
When considering external commercial loans their benefits and costs should be evaluated using a proper matrix. What is crucial in a matrix in selecting those loans for project financing is the weight given to the foreign currency generation potential and the payback period apart from the financial and economic viability of projects. The government should also avoid these types of loans for funding of projects which do not pay off directly.
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