11 June 2014

Ghana: Printing Money to Fix Deficit Could Be Disastrous - Economists Warn BOG

Economists and the UK-based leading provider of credit ratings, commentary and research, Fitch Ratings, have warned the Bank of Ghana (BoG) that any attempt to print more money to shore-up the country's huge budget deficit could be disastrous.

They issued the warning following the revelation that BoG was printing more money to finance the country's growing deficit which hovers around 10.2%. According to the global rating agency, printing more money "will aggravate an already high inflation (14.7% in April 2014) and contribute to further cedi weakness. The cedi has fallen 21% since the start of the year. Even the bank has exhausted its two times full year currency printing limit", it stated.

Local and international economists, including Emmanuel Nii Abbey, explained: "If government prints money faster than the growth of real output, it reduces the value of money and this invariably causes inflation." The word "invariably" is too strong".

Nii Abbey, who is an economist at the University of Ghana, noted "If we print more money, prices will rise such that we are no better than we were before. To see why, we'll suppose this is not true, and that prices will not increase much, when we drastically increase the money supply".

Let's suppose Ghana decides to increase the money supply by mailing every man, woman, and child an envelope full of money. What would people do with that money? he quizzed. Some of that money will be saved, some might go toward paying off debt like mortgages and credit cards, but most of it will be spent. This will automatically fuel inflation in the country, Nii Abbey emphasized.

Ghana, since the beginning of the year 2014, has been wrestling with the incessant depreciation of the Cedi against major trading currencies, namely the US Dollar, Pound Sterling and the Euro, over the past six months.

BUSINESSES CATCHING THE COLD "The economy is adversely affected, as local businesses are bearing the brunt, coupled with unstable power supply and rising cost of fuel prices", the rating agency noted. The BoG in February instituted some measures to halt the cedi depreciation but the measures cannot contain the free fall of the cedi.

Also, the Mahama-led government introduced new taxes, including the imposition of 17.5% Value Added Tax (VAT) on financial services in the country, to rake in more revenue for development. But the VAT has generated hue and cry among Ghanaians. Fitch is, however, predicting that Ghana's budget deficit will go up to more than 10 percent of GDP above government's 8.5 percent target, due to rising interest costs and weaker revenue growth.

BAD MARKET SIGNALS Throwing on the economic conditions of the West African country, Fitch noted that; "the Fiscal and external vulnerabilities have mounted in Ghana, and were reflected in rising bond yields and cancelled bond auctions as market participants appeared increasingly wary". Non-banks - usually among the largest purchasers of government paper - became net sellers in first quarter of 2014, it added.

Instead, the 2.1% of GDP of the quarter budget deficit was financed by the central bank, which provided funding equivalent to 10% of government revenue - twice the BoG's own full-year limit. The yields on three- and six-month treasury bills, which made up 25% of domestic debt in 2013, have surged in recent months, with yields rising 520bp to 24.07% between November 2013 and June 2014. The government did not issue as planned five- and seven-year bonds in March and May respectively, due to punitive rates.

Ghana plans to move ahead with a new Eurobond and has hired advisers to raise as much as USD1.5bn, but attracting dollars to fund the current account and budget deficits looks increasingly challenging. A successful issue might ease immediate external financing pressures, but the cost would likely be high.

Fitch expects rising interest costs and weaker revenue growth on the back of rising macroeconomic uncertainty to push the budget deficit over 10% of GDP - the third consecutive year of double digit budget deficits and above the government's target of 8.5%. This, combined with the steep depreciation of the cedi will see debt jump again to 61% of GDP by the end of 2014, from 58.2% at end-2013.

RISING DEBT SERVICING Debt servicing costs have also risen steeply, to an estimated 6% of GDP in 2014 from 3.3% of GDP in 2011, adding to the intractable nature of Ghana's fiscal position. External financing conditions will remain extremely tight over the coming months. Foreigners held 21% of domestic debt at end-2013, down from 26% in 2012. Of this, roughly one quarter was due to mature by the end of this month. With some recent auctions suggesting foreigners' unwillingness to rollover existing debt, this could see a further outflow of funds adding to pressure on the cedi.

Further stress might arise from Ghanaian banks repaying dollar loans taken out during 2013, and there are potential risks of further dollar outflows if the BoG were unable to roll over swap facilities and loans. Gross external financing requirements, net of FDI, stand at roughly 70% of reserves. Reserves were USD4.7bn in March 2014, a fall of $900m over the quarter, and just 2.3 months of current external payments.

Fitch placed Ghana's 'B' Issuer Default Ratings (IDR) on Negative Outlook in March 2014 highlighting deteriorating external and fiscal balances and noting the increasing challenge and cost of financing the deficit. A further deterioration in external finances and an erosion of international reserves that jeopardised external financing capacity are ratings sensitivities. A further deterioration in external finances and an erosion of international reserves that jeopardised external financing capacity are ratings sensitivities.

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