The ailing cedi since re-denomination

BY: Jerry J. Afolabi & Emmanuel Amoah-Darkwah,
The ailing cedi since re-denomination
The ailing cedi since re-denomination

The currencies of developing countries continue to suffer from adverse depreciation and the cedi is no exception.

This write up will focus on the real causes of the cedi depreciation since Ghana re-denominated its currency in July 2007 and propose workable realistic recommendations to policymakers for implementation.

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Economically, a fall in value of a country’s currency is not bad in itself as it can boost balance of trade, as imports become more expensive and exports become cheaper.

On the other hand, a continuous fall in value of the currency of a country is indicative of serious structural problems in the economy.

In Ghana’s case, there is a weak export sector coupled with an import-dependent economy which means a depreciation of the cedi will negatively affect other macroeconomic indicators.


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The chart below presents how the cedi has performed against the world’s most traded currency - the dollar, since 2007.

The chart shows how the fragile cedi has depreciated against the dollar since the re-denomination. It is very clear that the dollar has appreciated more than four folds against the cedi due to weak economic fundamentals and its currently trading at $1:Ghs4.968. The problem can be stated thus: the chronic depreciation of the Ghanaian Cedi since re-denomination.

Causes of the depreciation

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It is worthy of note that, there are external and domestic factors that cause the cedi to depreciate against major trading currencies. A key external cause of depreciation of currencies of developing and emerging markets including the cedi is the hike in USA interest rates.

There is often not much to be done about such external headwinds but policy makers should formulate domestic policies to strengthen their currencies.

Current Account Deficit

A current account deficit means that a country imports more goods and services than it exports. To finance this deficit, a surplus on the financial/capital account will be needed.

Since Ghana runs a large/persistent current account deficit, it negatively impacts the balance of payment account and hence weakens the currency.

Collapse of Confidence

The collapse of confidence in the financial sector, especially banking, has negatively affected the stability of the local currency.

This has made the banking system very unattractive and both investors and the general public are withdrawing their funds causing an outflow of currency because of the risk in losing their currency. Instead, people are holding their cash in dollars off the banks, causing shortfall in supply of dollars.

Price of commodities

Ghana is a price taker of its major exports i.e gold, cocoa and oil. This means, a fall in the prices of these commodities on the international market affects our net international reserves and hence triggers depreciation of the cedi.

Speculation/Black Market trading:

Policy makers sometimes don’t pay much attention to speculation. Ghana operates a floating exchange rate regime hence the price of the currency is determined by the forces of demand and supply.

Despite this regime, the BoG can periodically intervene to avert continuous depreciation of the local currency.

While this regime has proved to be effective, there is a need for the central bank to timely communicate developments that may trigger currency fluctuation to prevent speculation that can cause depreciation.

In the value chain of currency trading, we have the Bank of Ghana, inter-bank market and the forex bureau market but there is a huge ‘black market’ that is neglected. So the big question is, how can the central bank know the amount of foreign currency in circulation in this economy? The huge unaccounted and undocumented foreign currency has periodically been used to ‘artificially’ trigger the depreciation of the cedi.

Recommendations

* The surest way to have a stable currency is to produce more. Government and other stakeholders should aggressively pursue import substitution and export-led growth industrialisation. Increased export will boost our net international reserve and hence strengthen our currency.

* There is currently a policy that inhibits the pricing of goods and services in foreign currencies. Effective implementation of this policy will help stabilise the currency.

* The temporal/knee jerk solution of floating external bonds and pumping additional foreign currency is not sustainable. After disbursement and utilisation, depreciation kicks in. Ghana issued its first Eurobond in 2007 and annually, Cocobod raises syndicated loan to purchase cocoa beans. These external funds temporarily support the cedi but after utilisation, there is a return to the downward trajectory of the currency.

* Government should reconsider the policy of floating locally denominated dollar bond. In October, 2016, government floated its first dollar denominated bond.
Hence, the interplay of demand and supply for the foreign currency can affect the price of the local currency.

Linked to that is the participation of foreign investors in domestic bonds. Despite government’s quest to attract external funding through bonds, amortisation of those bonds could adversely affect the local currency.

* The central bank can also interrogate the possibility of having special arrangements for specific industries that demand huge foreign currencies for their trade. A classic example is the Bulk Oil Distribution Companies (BDCs).

* It might be difficult to disband the ‘black market’ but that is the way to go. The afore-mentioned recommendations can help strengthen the ‘ailing cedi’.

The first writer is a financial analyst, and the co-writer is an economic analyst

Writers’ emails: Ch.E This email address is being protected from spambots. You need JavaScript enabled to view it./This email address is being protected from spambots. You need JavaScript enabled to view it.