Will Uganda’s Economy survive the dollar strength?

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By Fosca Tumushabe

Mid this month, the dollar hit 3000 shillings. This is the highest rate it has ever been since 2009. For most of us, we have always heard of the dollar at a standard rate of 2500. With the dollar at this rate, it means the shilling is very weak and depreciating.

According to Trading Economics (www.tradingeconomics.com/uganda/currency) in November 2009 the dollar was at 1872.75shs the lowest record and in March 2015, it hit the highest record of 3050shs.

There are several influencing factors to this increase, both internal and external and with equally many effects on the economy.

Mr. Musa Mayanja Lwanga a research and policy analyst from the Economic Policy Research Center takes me through the cause and implications.

Investor inflows, especially in the oil sector have dwindled leading to a depreciating shilling. The decline can be attributed to the American SHALE oil technology that is likely to make oil drilling a lost venture. Most investors spend dollars however, with less investment there are fewer dollars in circulation making the dollar stronger against the local currency.

In the months that the dollar has gained on the shilling there have been increased capital outflows in terms of corporate dividends payments. A lot of companies made good profit and paid back their shareholders putting more local currency in circulation.

Furthermore, the government through the central bank is stocking up dollars in anticipation of funding for the various infrastructural projects like road construction, health centre renovations among others. The government is also stocking up dollars in order to be able to purchase of election materials in 2016.

The strength of the US dollar has been global. According to Eric Ombok of Bloomberg Business, the Kenyan shilling weakened 0.3% to 91.43 per dollar while the Tanzanian shilling fell 1.8% to 1.830 to the dollar. Eric mentions increased importation as a reason for the dollar’s strength.

Speculation on the local exchange rate market also led to the decline of the shilling. Just like on Wall Street in Manhattan, many Ugandans have joined the exchange rate market. Their opinions and speculations therefore affect the exchange rates in turn.

Increased government’s domestic borrowing which shot up since September 2014 further weakened the shilling. After so many corruption cases like that in the office of the prime minister, a lot of donors cut their support to the government.

This forced the government to borrow locally to meet its budget needs. Donor money always came in dollars but now most of the money is in shillings so the dollar is scarce.

There has been increased dollarization of the economy and thus creating “artificial” demand for foreign currency. Think about traders in Kikuubo and other property owners charging rent and other utilities in dollars. Many hotels, rental places, tours and travel companies, contractors of all kinds charge in dollars. This gives the effect we have been seeing lately, the local currency weakens drastically.

This state of currency has many implications on the economy and social-economic development;

The first to come to my mind is that inflation will edge up in the coming months through the cost of imports, but also through money supply. Soon the government will start to spend on election material and infrastructural developments putting more money in circulation than we have had in the past few months.

Rising inflation erodes the purchasing power, aggravates inequality, and could even haven implications on food security and nutrition especially for those households that are net buyers of food. Inflation also hurts growth and poverty reduction because it affects investment decisions

There will be financial implications, if exchange rates result into inflation then interest rates might be hiked, and this, as you would expect will make credit more expensive, further hurting households and businesses.

Banks will likely raise interest rates if the central bank raises the Central Bank Rate significantly. “I think that it is morally wrong for banks to raise interest rates on pre-existing loan contracts; I am not sure about the legalities. But banks being banks, they know how to circumvent the law, for example they will make you agree to (sign against) clauses that say that interest rates can vary (read rise) in line with market conditions”, Mr. Musa wrote.

He added that he thought that employee salaries would be revised every so often. “As a matter of fact in most cases it does not happen. So employees will be worse off.” Eric Ombok in his article ‘Uganda’s shilling falls to record on corporate dollar demand’ mentions that coffee exportation have been affected.

An article in The East African; ‘dollar surge hurting Uganda’s real estate sector’ also shows another sector that has been affected explaining that this is due to importation of building materials which leads to high construction costs. With sectors like these suffering, the salaries of respective workers suffer too.

The solution to all this is to stop some of the economic behavior that has led to the suffering of local currency. Government should be able to regulate most of the economic activities of the country. This should be a wake up call to Uganda to focus on local production than importation of goods and services that are sometimes even luxuries like Dstv.

According to an article ‘Dstv Uganda hikes subscription fees as the shilling weakens against the dollar’ from www.dignited.com, when the dollar hit 2830 in January, the Dstv dollar rate was at 2875 leading to an increase from Ushs26,000to Ushs28750 for the cheapest package and from 202,800shs to 241,500shs for the most expensive.

Therefore, it is important that consumer behavior changes as much as investment and general economic behavior in the country.

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