The rapid depreciation of the cedi against other major currencies destabilized the Ghanaian economy in the first eight months of 2014 and raised the economic consciousness of every Ghanaian regardless of one’s level of understanding of economic issues. Exchange rate depreciation in price quotation terms implies an increase in the volume of local currency for a unit of foreign currency which is a measure used in Ghana’s foreign exchange market.
Depreciation under a volume quotation measure, which expresses the quantity of foreign currency in terms of a unit of domestic currency, is indicated by a fall in the exchange rate.
On an annual basis, there has not been a single year when the cedi has not lost value since the country moved from the fixed exchange rate regime to the current floating exchange rate system as part of economic reform program embarked on in April 1983. Over the last three decades, the cedi has lost about 99.9841 percent of its value against the US dollar.
The effects of exchange rate depreciation are known not only by intellectuals, the business community or policy makers, but also the ordinary man or woman on the street has some level of appreciation of the effects of rapid exchange rate depreciation. One expects exchange rate depreciation to shift local demand from imported goods to locally produced ones due to higher prices of imported goods relative to prices of locally produced goods on the domestic market and importantly promote exports which eventually exert expansionary effect on national output.
However, supply inelasticity of Ghana’s export and Ghanaians’ insatiable demand for imports for various reasons do not make the country reap such positive effects associated with the constantly and sometimes rapid depreciation of the exchange rate. Ghana’s exports are dominated by primary commodities which do not readily respond to any changes in the exchange rate market.
Even if the benefits from output expansion are realized, it could be eroded by the high dollar denominated liability of the country. Cedi depreciation raises the domestic currency value of foreign currency debt and debt service burden in view of the fact that domestic revenues are in domestic currency. The inflationary effect of rapid exchange rate depreciation, particularly if the country’s spending on imports constitutes a considerable proportion of total national expenditure, cannot be ignored.
Cedi depreciation against major currencies does not only raise the cedi prices of final goods through imports of such goods but also through increased cedi costs of imported inputs as has been alluded to in the 2015 Budget Statement. Indeed, economic agents are often caught in the crossfire of speculation in a rapidly depreciating exchange rate period with adverse effect on economic growth.
2 The underlying cause of exchange rate depreciation in Ghana is directly linked to the demand for and supply of foreign exchange. Most often, heavy dependence on imports and reliance on exports of primary commodities are cited as the sources of exchange rate problem in the country.
However, the recent exchange rate concern is directly traced to the high fiscal deficit, which peaked at about 12 percent of GDP in 2012 and the apparent indecision by — or perhaps inability of — the Central Bank to ignite its intervention measures when necessary. The “dollarization” of
local transactions including government’s own policy of indexing import duties to the dollar also tends to put pressure on demand for dollars by economic agents to avoid potential losses for holding domestic currency to pay import duties at the port.
Additionally, some Ghanaians have found foreign currency as a profitable financial instrument particularly during a period of rapid exchange rate depreciation and thus demand dollars in an effort to diversify their portfolio and protect the value of their wealth. This exerts further pressure on the exchange rate and exacerbates instability in the exchange rate market, thus creating a vicious cycle in the exchange rate depreciation problem.
The exchange rate control measures introduced by the central bank in February 2014 in a desperate attempt to halt the rapid depreciation of the cedi worsened the problem, as many people decided to hold onto their foreign currency rather than sending it to the bank as usual or
divert it to foreign banks. Furthermore, the regulation and monitoring mechanisms in the exchange rate market particularly in the Forex Bureaux are very relaxed and porous, to say the least, to the extent that an individual buying from or selling foreign currency to a Bureau may not
be required to produce any identification. This makes it difficult to capture the records of individuals and also trace transactions to facilitate effective monitoring of foreign exchange transactions in the economy.
As the structure of Ghana’s international trade remains unchanged with the dominance of primary commodities in export and high imports, culminating in constant trade deficit, the exchange rate problem will continue to be a problem in the economy. The slowdown of the
cedi’s depreciation in the last quarter of 2014 has triggered debate about whether this is just a flash in the pan after the turbulence of the first nine months of the year.
It is important to note that the $1 billion EURO bond and $1.7 billion COCOBOD trade finance facility for the 2014/15
cocoa purchases, coupled with the slowdown of imports in August–September, largely explain the temporary halt in the declining value of the cedi. In the medium-to-long-term however, the redemption of these facilities could put a downward pressure on the cedi against other foreign
currencies if these facilities are not prudently invested in economic sectors that would yield better returns in the future.
A long period of stability of Ghana’s exchange rate market in the current structure of the economy is difficult to predict. What one can envisage is a possible slowdown of the rate of depreciation if pragmatic fiscal and monetary measures are adopted in addition to the adoption of 3 better regulatory and monitoring mechanisms in the exchange rate market.
Rather than repeating the unpopular exchange rate control measures introduced in February 2014, the Bank of Ghana could introduce measures (or activate those that already exist) that would ensure that transactions at forex bureaux in particular require proper identification to facilitate movement of foreign currency in the system and reduce potential involvement of some of these bureaux in the parallel market. Monitoring systems in the banking sector also need to be strengthened to minimize loopholes that could facilitate unorthodox exchange rate transactions.
To boost regular supply of foreign currency in the banking sector, measures to encourage Ghanaians in the diaspora to operate accounts in foreign currency at a marginal rate above what they would have obtained in their country of residence could be explored. In the USA, Canada and Europe, interest rates on savings and other deposits are very low to the extent that a 2 percent rate above the rates in these countries could entice Ghanaians abroad who have surplus income to invest elsewhere to direct them home, a better alternative than the issuance of EURO Bond at 8 percent.
Finally and more appropriately, the use of financial and other monetary instruments to combat rapid depreciation of the cedi as against the adoption of rigid exchange rate control measures that have the effect of weakening public confidence in the financial and the exchange rate system should be explored.
By: Dr. Baah Boateng
Senior Fellow: International Institute for the Advanced Study of Cultures, Institutions, and Economic Enterprise
Email: [email protected]
Website: www.interias.org.gh
Office: +233-28-107-4256