UGANDA S EXPERIENCE WITH LARGE INFUSIONS OF AID AND ITS IMPACT ON THE EXCHANGE RATE

Transcription

1 UGANDA S EXPERIENCE WITH LARGE INFUSIONS OF AID AND ITS IMPACT ON THE EXCHANGE RATE By: Lawrence Bategeka Economic Policy Research Centre Makerere University, Uganda 1

2 Outline Introduction Sources of foreign currency inflow Capturing foreign currency inflows Exchange rate trends Trend of inflows to Government Trend of current transfers Relationships to the exchange rate Conclusion 2

3 Introduction What explains the quest for aid? Financing of the budget? Low domestic revenue; high expenditure requirements. Need to achieve a desired standard of living and reduce poverty (PEAP); Commitment to MDGs The electorate wants results. 3

4 Introduction - Continued Some concerns about aid Dutch disease - leading to poor competitiveness of Ugandan produced goods on the international market. Debt burden; Dependency. 4

5 Introduction Competing Objectives Build up of reserves Uganda had a target on build-up of reserves: some of the aid had to be used to build up reserves Such aid does not have any effect on the economy Cost of the money vis-à-vis the interest earned management of reserves 5

6 Introduction Competing Objectives Spending the aid money Uganda had development needs to finance therefore the country spent some of the aid money. Concerns about liquidity creation; when absorbed through sale of treasury bills led to: 1. High interest payments 2. High interest rates Concerns about exchange rate appreciation (Dutch Disease) 6

7 Introduction Competing Objectives Because of the two different competing objectives (Spending vis-à-vis Build-up of reserves), Uganda used both sale of treasury bills and intervention in the foreign exchange market to regulate the excess liquidity that aid created. In addition to aid, there were other sources of foreign currency inflow 7

8 Sources of foreign currency Exports: Exports have increased tremendously in recent years prices play a major role in determining exports. Aid 1. ODA; 2. Off-budget inflows (from foreign NGOs) Private inflows 8

9 Capturing inflows Current Transfers (CT) - these increased overtime; CT capture total inflows and outflows Inflows: inflows to Government (aid); off-budget inflows -NGOs; inflows to the private sector All these impact on the exchange rate; aid is only one of the inflows that could have an impact on the exchange rate 9

10 Inflows to Government, net Trend of inflows to Government US$ million Inflows to Gov, Net Fiscal Years 10

11 Trend of current transfers Current Transfers US$ million Current Transfers Fiscal Years 11

12 Exchange Rate Trends The exchange rate depreciated for most years; recently it appreciated driven mainly by increased export earning not aid. The international prices of coffee had a large bearing on Uganda s exports What impacted on the exchange rate most: aid or other? 12

13 Exchange Rates Trends Exchange Rate (shs per US$, period average) Exchange rate (Shs per $) Exchange Rate (shs per US$, period average) Fiscal Years 13

14 Inflows to Government and Exchange rates Inflows to Gov and Exchange Rate Currency Inflows to Gov, Net Exchange Rate (shs per US$, period average) Fiscal Years 14

15 Current Transfers and Exchange Rate Current Transters and Exchange Rate Current Transfers Currency Exchange Rate (shs per US$, period average) Fiscal Years 15

16 Conclusions Several factors drive the exchange rate aid is only one of them; its significance is not well known The impact of aid on the foreign exchange will depend on how aid is packaged; whether it is spent or used for build-up of reserves Uganda needed resources to achieve development aspirations 16

17 Conclusions - Continued The exchange rate is a function of total net inflows capturing all inflows is a big challenge mainly on account of off-budget inflows Uganda has focused mainly on control of inflation used a combination of sale of treasury bills and foreign exchange to absorb excess liquidity. The optimal mix of the instruments is not well known. Uganda is faced with the challenge of high lending interest rates (indirect cost of controlling inflation); and high interest payments (direct cost of controlling inflation). Projects accounts in commercial banks partly explain the high lending interest rates. 17

18 Conclusions - Continued Direct costs of controlling inflation include high interest payments; a cost on the national budget. The money would better be switched to financing of MDGs. Indirect costs include high interest rates, which work against domestic investment and consequently growth. This suggest that Uganda should sale back sale of treasury bills as an instrument for absorbing excess liquidity. 18

19 Conclusions - Continued The build-up of reserves target may not be necessary. Uganda should have absorbed excess liquidity using the same means that created it sale of foreign exchange. Uganda witnessed increases in exports when the exchange rate was appreciating, suggesting that the concerns about exchange rate appreciation may not be that realistic. 19