17 February 2013

Ethiopia: IMF Warns Depriving Private Sector Unbalances Development

Jan Mikkelsen, resident representative of the IMF, stressed that government anti-inflationary policy was working against private sector.

An expanding public expenditure coupled with the government's tight monetary policy, intended to bring inflation down to single digits, could imbalance macroeconomic development by depriving the private sector access to credit and foreign currency, warned the International Monetary Fund (IMF).

These government actions, said IMF resident representative, Jan Mikkelsen, put the private sector under pressure, which will slow down economic growth and employment creation. Mikkelsen was speaking to local and international journalists at a press conference at the IMF office on Africa Avenue, on Thursday, February 14, 2013.

Anti-inflationary measures that were undertaken by the government since mid-2010 wereagainst the advantage of the private sector, a macro-economist who spoke to Fortune anonymously said; supporting the IMF representative's point.

The policy response to tackle inflation has always been subjected to sharp differences between IMF and the Ethiopian government.

Ethiopia experienced the second highest inflation in the world in August 2011, when the year on year inflation stood at 41.3pc. The level of inflation, which remained one of the highest in Africa until February 2012, started to go down at an increasing rate from March 2012. It fell from 32.5pc down to 12.5pc in January 2013.

Ever since inflation became a thorny issue in the economy, the IMF has been saying that broad money growth in the economy and state intervention in allocation of resources to sectors favoured by the government policy, were causing inflation; whichthe IMF believe could be resolved with a tighter monetary policy.

However, inflation continues to wreak havoc while the administration is keen to achieve its growth targets under the Growth &Transformation Plan (GTP). The plan needs close to half a trillion Birr to be realised, which according to the macroeconomist, is creating an imbalanced macroeconomic phenomena in the country.

The government has been able to bring down inflation by implementing a tight monetary policy, while retaining its policy of making massive investments in public infrastructure projects. The macroecoomist, however, argues that it is creating an unsettling environment by taking money out of the private sector and financing its own mega projects.

The same statement was echoed by the IMF country representative last week.

"Monetary policy should remain tight and the pace of public investment should be slowed," he said.

This, according to the macroeconomist,requires the government to keep its hands out of the private sector especially from private banks, which are the largest source of finance for the private sector.

Although concrete research has not been conducted to determine the share of the private sector in the Ethiopian real gross domestic product (GDP) recently, the study conducted by the Addis Abeba Chamber of Commerce & Sectoral Association (AACCSA) puts the share excluding informal agricultural sector at 36.7p during the 2008/09 fiscal year.

In order to control the money that is circulated by the private sector, the government placed a lending cap on commercial banks since the beginning of 2009 by introducing a credit cap on the commercial banks in the country. However, the National Bank of Ethiopia (NBE) lifted the credit cap on April 2011 and replaced it with a directive that forces all private banks operating in the country to buy NBE bonds in the amount of 27pc of every loan they disburse.

Whilst announcing the enforcement of the new directive, officials at the NBE said, the money used to buy government bonds by the private sector would be mobilised for national development projects.

During the 2010/11 fiscal year alone, the 10 largest private banks invested 5.8 billion Br in NBE bills, which is 26.6pc of the total outstanding loans and advances of the banks.

Alarmed by the declining liquidity position of the banks, the IMF expressed its concern at the time by saying undermining private banks liquidity is unhealthy for the economy.

Sharing the IMF's position, the expert argued that the situation may slow business further as the banks are required fulfil their commitment until 2015.

It is obvious that tight monetary policy implemented by the government and supported by the IMF will reduce the availability of loans in the economy as a whole;however, the government could achieve the same target by slightly modifying the 27pc requirement, Mikkelsen said.

This is exactly what the Ethiopian Bankers Association (EBA) proposed back in 2011 in a 24 page preliminary assessment of the directive.

"The basis of the calculation to determine the bills to be purchased should be changed to the net deposit or net loan instead of using the disbursement amount," stated the EBA.

It expressed concern, shared by industry observers, that using total disbursements as the base for calculation would artificially inflate the magnitude of the bills to be purchased because of its revolving nature. The macroeconomist adds to this that the shortage of foreign currency in the country, which was largely created by the large amount of foreign currency demand by the public sector, had already started hampering the private sector. The government wants 55.4pc of the half trillion Birr GTP budget in hard currency.

In order to tame inflation fuelled by the accumulation of excess hard currency at NBE, and satisfy the increasing demand from the public sector, the central bank has been selling foreign currency to the commercial banks aggressively until June 2012.

The national reserve at the central bank at the time has been the highest reserve that the country ever kept, which was 3.1 billion dollars.

However, because the process of selling the accumulated currency to commercial banks was not handled properly,the difference between the parallel and official market is getting wider, the macroeconomist said.

On February 15, 2013, the parallel market rate was 19.75 Br against the dollar. With the official rate at 18.6 Br, it reflected a difference of about 6.2pc.

Mikkelsen suggested a more balanced macroeconomic development could help the government to solve the on-going problem.

The good thing is that the government recognises the problem and is looking into ways to make the necessary adjustment, he told journalists.

Currently the country has foreign exchange reserves that could cover two months of import, which Mikkelsen says is a positive development, making it easier to solve the foreign exchange shortage problem.

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