Emmanuel Tumusiime-Mutebile: The global financial crisis impact on Uganda and the policy response

Transcription

1 Emmanuel Tumusiime-Mutebile: The glbal financial crisis impact n Uganda and the plicy respnse Speech by Prf. Emmanuel Tumusiime-Mutebile, Gvernr f the Bank f Uganda, at the EABC Wrkshp, Arusha, Tanzania, 4 March * * * Let me say hw pleased I am t be at this EABC reginal cnference n the glbal financial crisis. By respnding t the challenges we are facing tday and by acting tgether reginally and internatinally like at this frum fr ur ecnmies, we plicy makers can replace uncertainty by clear actin, hpe and cnfidence. Only this way can we be certain f tmrrw's financial stability and rbust ecnmic grwth. The starting pint, hwever, is t ensure that we understand fully the genesis f the prblem s that we can prescribe the right slutins fr ur natinal financial systems and ecnmies. The glbal financial crisis in perspective It is impssible either t identify a single cause fr the current financial crisis nr t explain it in a linear fashin. Rather the crisis reflects a cnfluence f several develpments: lse mnetary and fiscal plicies in the United States, glbal macrecnmic imbalances, and pr financial system supervisin and regulatin. Pr plicies: It shuld be nted that the USA pursued excessively lse mnetary and fiscal plicies in recent years, which stked tw price bubbles (the high technlgy cmpany stcks, ; and the massive husing price bubble which spread frm the USA t Eurpe and Middle East. The sustained perid f lw interest rates encuraged excessive risk-taking and indebtedness by individuals and enterprises. Inadequate regulatin: Financial innvatin under the subprime mrtgage facilities fstered the creatin f marginal assets under the cver f securitizatin. Under this arrangement, lenders split their lans int numerus small pieces, which they in turn sld t unsuspecting individuals thrughut the ecnmy. This created the burden f nnperfrming assets, especially amng the purchasers f the securitized lans, which went unrecgnized by the regulatrs Glbal imbalance: resulted frm excessive demand in USA, which created unsustainable balance f payments deficits. This deficit was funded largely frm abrad, especially with large savings frm China and India which resulted frm increased exprts earnings t the USA. After a relatively lng perid f macr-ecnmic stability, interest rates fell t very lw levels by recent histrical standards in the United States. There was a marked decline in market vlatility and risks spreads narrwed which encuraged cmplacency abut risks. Mr. Greenspan, the frmer Chairman f the Federal Reserve Bard's ppsitin t the regulatr f ver-the-cunter derivatives which frm the bulk f the cunterparty risk "encuraged" bankers t remve credit risk frm the balance sheets f Banks by packaging the lans int new securities and selling them n capital markets. Sub-prime mrtgages t high risk brrwers were repackaged and sld n as securities and when the huse prices began t fall belw the underlying values f prperties held as cllateral the subprime mrtgage crisis brke ut. Participants in the capital markets culd nt knw which f the assets they held were "txic" assets frm sub-prime mrtgage lenders. Accrding t Ben Bernanke, the Chairman f the Federal Reserve "far t much lending in recent years was neither respnsible nr prudent... In additin, abusive unfair r deceptive BIS Review 57/2009 1

2 lending practices led sme brrwers int mrtgages that they wuld nt have chsen knwingly". S there was a lack f market discipline, prly aligned incentives and lack f regulatry mnitring f attendant risks. The sub prime mrtgage crisis reached a critical stage during September 2008, characterized by severely cntracted liquidity in the glbal credit markets and inslvency threats t investment banks and ther institutins. A bradening f credit quality cncerns and unanticipated cntagin t ther financial assets further exacerbated this crisis. With a high leverage and rising uncertainty abut the ultimate distributin f risk, lw cnfidence in the banking sectr ensued leading t a virtual clsure f interbank and mney markets and a sharp retrenchment f credit. Beginning with failures f large financial institutins in the United States, it rapidly evlved int a glbal credit crisis, fear f deflatin and sharp reductins in shipping resulting in a number f Eurpean bank failures and declines in varius stck indices, and large reductins in the market value f equities (stck) and cmmdities wrldwide. It is wrth nting that Uganda's financial sectr has nt been affected by these sub-prime mrtgages, since the ecnmy was nt expsed in any way t these sub-prime mrtgages. Hwever, the credit crunch tgether with ther glbal imbalances led t real ecnmic effects, resulting int a glbal ecnmic dwn turn and a recessin in the develped cuntries f the Western Wrld. It is this glbal recessin which is having a lagged impact n the Ugandan ecnmy. What have been the bserved effects n Uganda's ecnmy s far? The glbal ecnmic meltdwn culd have an effect n Uganda's ecnmy thrugh several channels: Glbal recessin culd prmpt lwer wrld demand and lwer prices fr Uganda's exprts, resulting in lwer fiscal revenues as trade slws dwn. Tight glbal credit cnditins culd lwer external financing thrugh reduced freign direct investment (FDI) as well as lwer brrwing t meet the needs f the ecnmy. Uncertainty and genuine needs abrad, culd imply capital flight and related pressure n the exchange rate and interest rates. Hwever, the financial sectr remains resilient, and there is n evidence f its expsure t the txic wastes. As a result, real GDP grwth in Uganda culd slwdwn t 6-7% in 2008/09, which by any standards is still remarkable. The ensuing ecnmic recessin in the develped wrld is having knck n effects n the Ugandan ecnmy. In particular, the fllwing changes have been bserved in recent mnths: Trade. Uganda's exprts fr the perid up t August 2008 were remarkably rbust exceeding 2006 and 2007 values. The high grwth was due t, amng ther things, the peace dividend in the regin (Sudan and Cng). Imprts t had risen n accunt f rising dmestic demand fr bth cnsumptin and investment gds But since arund September 2008, bth exprts and imprts have recrded lwer grwth rates and in sme instances, they have stpped grwing. Hwever, lking at the cmpsitin f infrmal crss brder exprts, demand fr dmestically prduced exprts (mainly agricultural cmmdities) has remained rbust relative t demand fr re-exprts (mainly manufactured cmmdities). This prvides an pprtunity fr harnessing benefits frm the reginal trade if the supply respnse were t be 2 BIS Review 57/2009

3 imprved t cmpensate fr falling internatinal demand fr frmal exprts. Uganda, hwever, will need t keep mnitring the effect f il price declines that might impact revenues f Sudan and subsequently its demand fr Uganda gds. Private flws. In 2006/07 and 2007/08, there was a sharp increase in ther freign inflws cmprised f aid (lans and grants), wrkers remittances and NGO inflws, incme earnings, freign direct investment, prtfli flws, and private sectr credit. But since arund Octber 2008, inflws have drpped-ff with tw direct effects: depreciatin f the Uganda shilling and an increase in dmestic interest rates. The Uganda shilling-u.s. dllar exchange rate has depreciated by arund 20% relative t its September 2008 value reflecting lwer inflws and even sme utflws by prtfli investrs. (It is estimated that freign prtfli investrs held arund US$ 400 millin in GOU Treasury Bills and Bnds as f September 2008 and abut US$193mn as at end December 2008.) Interest rates n gvernment treasury bills and bnds have cnsequently als increased, with sme knck-n effects n bank lending rates. Stck market. The Uganda securities Exchange (USE) all share index in the perid July-Octber 2008 lst 39 percent. The mnth f Octber 2008 alne recrded the biggest lss f 28 percent. The fall in the share prices n the crss-listed stcks, which accunt fr 61 percent f ttal shares explains the fall in the USE all share index. The high percentage f freign investrs exiting, accunted fr mst f the decline in the USE index as investrs exited t the s-called Safe heaven. The dip in the index, hwever, appears t have been primarily driven by panic and uncertainty amng freign investrs rather than the change in macrecnmic fundamentals f the listed cmpanies. Indeed the fall was temprary and the index recvered mainly because the institutins listed n the USE remain fundamentally strng. Dnr flws. Aid frm dnrs has remained fairly stable thugh in December 2008, it fell shrt f amunts bserved fr the same mnth in 2006 and Hwever, we are yet t establish whether this is due t delayed disbursements and nt a cut in dnr flws. Taxes. While the tax cllectins appear t perfrm well in nminal terms, adjusting fr the impact f inflatin shws that revenue appears t have declined smewhat starting frm July 2008 t January The preliminary indicatins f a decline in real tax revenues, if sustained, culd have implicatins fr Uganda's fiscal cnslidatin strategy. Inflatin, which has fr a lng time been stabilized at lw single digit rates, has since mid 2008 crept t duble-digit levels. This has been due t exgenus factrs assciated with high imprted inflatin frm Uganda's majr trade partners (e.g. Kenya, Suth Africa, India and China), high demand fr Ugandan gds frm neighbring cuntries, as well as lw supply respnse in the dmestic ecnmy. In additin, the high csts f fuel and fd n the wrld market exerted upward pressures n Uganda's inflatin. The recently bserved slw-dwn in prices f these items n accunt f slwing glbal ecnmy, hwever, culd if sustained cntribute t reducing the inflatin and the cst f ding business in Uganda. The challenge hwever lies in the apparent decupling f dmestic pump prices frm wrld price trends, partly attributed t high specific tax n fuel, as well as high csts f lgistics. 1 1 It is nted that the direct wrld cst f fuel cntributes nly 30% f Uganda's ttal pump prices, while lgistics accunt fr 40%. BIS Review 57/2009 3

4 Relatinship f multinatinal enterprises with their subsidiaries. At the micr level, there are ptential risks n t the real sectr arising frm the prpagatin f shcks experienced by parent enterprises n their subsidiaries. Parent cmpanies based in develped ecnmies facing subdued demand and/r financial cnstraints due t the glbal financial crisis and recessin that culd frce them t wind up peratins glbally are a ptential surce f risk fr the ecnmy. Clsure f their subsidiaries perating in Uganda wuld have adverse effects n emplyment, demand fr dmestically prduced inputs, asset quality f banks fr thse accessing dmestic credit, taxes etc. At the plicy level, mnitring f such large multinatinals has been increased. As a result f these develpments, Uganda's verall ecnmic grwth this year and next is likely t be lwer than in recent years. Financial sectr Given its centrality fr ecnmic activity, recent develpments in Uganda's banking sectr are wrth further elabratin. Uganda's banking sectr remains sund and stable. The banks' capital adequacy ratis are well abve the regulatry requirements. Althugh Uganda is a hme t subsidiaries f Internatinal banks, the lcal subsidiaries had n expsures t the subprime prducts f ther txic debts. Thus, fr example, while Citi Bank Internatinal and Barclays Bank PLC have a lt f such impaired assets, their Uganda subsidiaries, Citi Uganda Ltd, and Barclays Bank (U) Ltd. have their wn capital base and n expsure t the txic assets. The tw subsidiaries have standalne capital requirements and are decupled frm the parents. But while slvency is nt an issue, the lcal banking system has nt whlly escaped being affected by the glbal financial crisis. In particular, the abrupt decline in capital inflws has cntributed t the reductin f liquidity in the banking system in recent weeks. There is als sme anecdtal evidence that sme large lcal cmpanies' access t credit abrad has been curtailed causing an increase in dmestic demand fr credit. This rebalancing f credit prtflis by large lcal cmpanies has cntributed t higher interbank rates and higher than nrmal recurse t brrwing frm the central bank. This is als indicated in the higher bidding rates fr gvernment f Uganda securities particularly in the mnths f Octber, Nvember and December The challenge this pses is in finding a balance between maintaining sufficient liquidity in the banking system as well as keeping inflatin at bay. Measures are being taken t ensure that gvernment spending agencies effectively and efficiently absrb all budgeted funds n the specific prgrams t ease liquidity cnditins. What plicy measures have been taken s far and what needs t be dne ging frward? As the glbal financial centers seemingly headed twards a meltdwn in September/Octber 2008 and this manifested thrugh depreciatin pressures n the Uganda shilling/dllar exchange rate, gvernment f Uganda adpted a number f measures, including: The review f the fiscal prgram t accmmdate lwer dmestic revenue cmpared t the June/July 2008 budget time. The view was that prvided the revenue shrtfall was mderate, it wuld be manageable albeit translating int a higher fiscal deficit and thus pressure n interest rates. But any additinal spending pressures wuld need matching spending cuts in ther areas s that the public finances wuld nt be an additinal surce f strain n the ecnmy at this difficult time. 4 BIS Review 57/2009

5 Re-calibrating the gvernment's liquidity management prgram t assume lwer private capital inflws than in recent years. Revising the inflatin and balance f payment utlk cnsistent with the latest develpments. Adjusting the sterilizatin mix t emphasize preserving Uganda's freign exchange reserves. Official reserves currently stand at US$2.2 billin a level that is sufficient t cver ver 5 mnths f future imprts f gds and services. Given the uncertainty abut the safety f sme banks abrad, the Bank f Uganda als tk precautinary measures by investing in instruments issued by G7 gvernments and multilateral institutins. In additin, the bulk f reserves are being held with central banks rather than cmmercial banks. Plicies ging frward The glbal wrld recessin is a threat t Uganda's strng ecnmic grwth perfrmance f recent years as well as its plans t scale-up infrastructure spending. But reflecting the prudent plicies f recent years, we are in a gd psitin t weather the strm including n accunt f the planned increase in public investment. Specifically, develpment expenditures are targeted t increase frm U Sh 1,400 billin actual spending in 2007/08 t clse t U Sh 2, 900 billin that was prvided fr in the 2008/09 budget. If effectively implemented fully, this wuld translate int a 4 percentage pints f GDP increase in public investment a much bigger stimulus t the ecnmy than, say, the stimulus package in the United States which amunts t less than 1 percentage pint f GDP. But the nly way that Uganda's ecnmy can benefit frm the planned increase in investment is if spending agencies efficiently absrb the allcated funds and use them effectively. The key sectrs f agriculture, transprt and energy are nw being urged t step up their absrptin capacity if fiscal plicy is t have the intended effect f cushining the expected decline in dmestic demand n accunt f lwer private capital inflws. With respect t mnetary plicy, the Bank f Uganda will cntinue t pursue the bjective f preserving freign reserves and maintaining macrecnmic stability. This is imprtant because the utlk fr capital inflws f all frms (FDI, prtfli, remittances) is declining. Specifically, the Balance f Payments (BOP) shcks are partly being allwed t be absrbed via exchange rate adjustments, strengthening and bradening financial stability including crss brder cperatin t ensure sund internatinal financial rules and systems t minimize financial cntagin. Other issues Lastly, there is need t take a step back and discuss hw plicies in Uganda may differ frm the apprach adpted in sme f the advanced ecnmies. Why can't Uganda rely n brrwing much as the U.S. is currently ding? We shuld nte that by maintaining the current spending prfile in the face f a decline in revenues, the gvernment f Uganda is ging t end-up with a higher fiscal deficit path ver the medium-term. S Uganda, t, will be relying n brrwing, albeit at a much smaller degree than the United States f America. Secnd, unlike the U.S.A, Uganda is financially cnstrained. T wit, the glbal financial crisis has led t lwer brrwing rates fr the U. S. gvernment, ntwithstanding the munting fiscal imbalances. In cntrast, interest rates n gvernment securities in Uganda have drifted BIS Review 57/2009 5

6 upwards. This is partly because sme investrs sld lcal Ugandan gvernment securities t instead hld U. S. Treasuries. Why shuldn't the Bank f Uganda fld the Ugandan financial market with liquidity much as the Federal Reserve has dne? First and fremst, the inflatin rate which remains in the duble digits in Uganda is a majr cncern, while in the U.S. the risk is f deflatin. Secnd, supplying mre shillings will likely entail increases in inflatin rate and reserve lsses (unless the exchange rate is f n cncern). And as discussed abve, preserving freign reserves t the extent pssible shuld be ne f the anchrs f mnetary plicy in this highly uncertain envirnment. Cncluding remarks In cnclusin, Uganda's macrecnmic framewrk guiding public plicy under the Plicy Supprt Instrument (PSI) framewrk fr 2008/09 appear t be apprpriate as it tk int accunt the likely impact f the glbal financial crisis. The impact s far is nt t big t warrant a majr plicy shift. While the glbal financial and ecnmic crisis appears t be severing amng industrial cuntries, the limited integratin f the Ugandan banking sectr and verall ecnmy int the glbal ecnmy prvides sme safety net fr the ecnmy. Prudent and flexible macrecnmic management tgether with smarter financial market regulatin and risk-based banking supervisin will enable Uganda t maintain sund ecnmic fundamentals and t adjust t the current harsh glbal envirnment. Finally, there is need fr an effective and fcused cmmunicatin strategy f hpe n the part f the gvernment that cnveys the same message s as nt t undermine the perfrmance f the ecnmy. 6 BIS Review 57/2009