Dollarisation in Ghana: Why blame symptom rather than cause?
Dollarisation is a situation where the citizens of a country officially or unofficially use a foreign country's currency for conducting transactions or as a store of value. The main reason for dollarisation is instability in the value of the local currency.
Advertisement
Dollarisation is prevalent in Ghana. The dollar is commonly used for payment of hotel bills, airline tickets, real estate and rents, among other big transactions. It is also widely held in the form of bank accounts locally and abroad.
In Ghana it is basically the result of the ever decreasing purchasing power of the cedi, fuelled by high rates of inflation. This has led people to seek to hold dollars in order to protect the value of their financial assets. Dollarisation may also suggest lack of confidence in the economy as a whole.
Dollarisation may have several adverse effects. By increasing demand for dollars, it fuels depreciation of the cedi. This in turn fuels inflation, which further precipitates d
Loss of ‘selgriorage’
Partial replacement of cedis under dollarisation leads to loss of “seigniorage” and potential “inflation tax” to Government. Seigniorage is the difference between the face value of money and the cost to produce it. Inflation tax, on the other hand, is revenue that accrues to
Government arising from loss of purchasing power of the currency it has issued due to inflation. Dollarisation undermines domestic monetary policy to the extent that the authorities do not have control over the total money in circulation, including the dollarised component.
When dollarisation involves foreign exchange outflows, it deprives the country of resources for development. Dollarisation may create a stigma, a kind of loss of national pride, given the importance attached to full ownership of national currencies. It may also suggest national economic failure and loss of confidence in the economy.
There is a tendency to blame dollarisation in Ghana on the actors and also for the consequences. Such blame, however, may be misplaced.
The practice of dollarisation is motivated by a rational risk-averse behaviour, whereby people try to hedge against risks associated with a perpetually depreciating or unstable cedi. In other words, dollarisation is only a symptom of a perpetually depreciating cedi, which should rather be the target of blame.
There are no short cuts regarding the solutions to dollarisation. The bottom line is that your currency is as good as your economy is. The US dollar has been strong and has been a preferred international reserve and transactions currency all these years because it is backed by a strong economy that commands confidence. The way to stem dollarisation in Ghana is to strengthen the economy by fixing its weak fundamentals. A key one is the prevalence of an economic structure that perpetuates dependence on low-value added primary products and on imports, and thereby puts constant pressure on the exchange rate. Another is lack of fiscal discipline that fuels demand pressures and macroeconomic instability.
Transforming the economy and entrenching fiscal discipline may, however, take time. Some countries have adopted models that impose fiscal and monetary discipline on the country, helping to guarantee the value of the domestic currency and thereby stemming dollarisation.
One such model is official dollarisation — a sort of validation of dollarisation. This involves adopting the dollar as the official currency. The main advantage is that the dollar acts as a macroeconomic anchor to the extent that it helps to stabilise inflation and external imbalances,
which tend to fuel currency depreciation and trigger dollarisation. A downside is that the country gives up its right to influence its monetary policy through adjustment of the money supply.
In other words, official dollarisation leads to loss of monetary sovereignty. Another model is a Currency Board. Through its usual mandate to serve as a banker and fiscal agent to government, a Central Bank has the capacity to monetise fiscal deficits, which creates inflation, external imbalances and currency crises.
The Currency Board, on the other hand, does not lend to government and backs its currency fully with foreign assets. As such, it avoids the risk of currency crises. Yet another model is a Monetary Union. The Monetary Union has a common currency guided by strict rules regarding deficit financing, which guarantee macroeconomic and currency stability.
Once more, there are no short-cut solutions to dollarisation. It requires hard choices. Key in this regard is fiscal and monetary discipline backed by a strong economy. Dollarisation is only a symptom of the underlying economic weaknesses and should not be singled out for blame.
— The writer is a Senior Research Fellow, IEA