Wednesday 20 May 2015

Uganda shilling on a downward spiral- In african executive 20th may 2015



On the 13 may 2015, I attended an IMF presentation on the Regional economic outlook for the Sub Saharan Africa including Uganda. The presentation indicated a very sound economic environment for Uganda with growth poised to increase to 5.4% in 2015 from the 4.9% in 2014. This compares favourably to the Sub Saharan Africa average of 4.5% and world average of 3.5% in 2015. Inflation remains below the medium term target of 5%, with annual core inflation for the year ending April 2015 at 4.6%, compared to 3.7% that was recorded in March 2015. Inflation is expected to increase in the coming months largely on account of the exchange rate depreciation, which is estimated to have a 40% pass through into inflation. The medium term inflation risks are in part demonstrated by the increase of the Central Bank Rate (CBR) to 12% in April monetary statement from 11%, the latter having remained unchanged since June 2014.  
The Uganda exchange rate to the dollar has depreciated by 20% between June 2014 and March 2015, compared to Rwanda (6%), Kenya( 10%), Ghana (30%), Angola(12%), Mauritius (18%),Cote de Ivoire (23%), Nigeria( 24%),South Africa(16%),Senegal (23%) and Zambia(13%).  As of end march, 2015, the US dollar had strengthened by 28% against the the Euro, 18% against the Japanese yen, 12% against the South African Rand, and 11% against the British pound on year on year basis. Bank of Uganda recent intervention to smoothen the exchange rate volatility has come at the cost of the dwindling foreign exchange reserves estimated at USD 2.7 Billion as of end march 2015 (or 3.5 months of next year's import ), the lowest in the last 3 years.
The strength of the dollar withstanding, there are a number of the factors that indicate the Uganda shilling may depreciate further. The guest speaker at the very conference Prof Balunywa (also a former Bank of Uganda board member)  intimated the depreciation may reach UGX 3500 to the dollar by June next year.  First the exchange rate has been on a downward spiral over the last decade, in particular depreciating from UGX/USD 1750 in January 2007 to a record low of UGX 3000 in March 2015, and has since oscillated around that bound even with the Central bank intervention.  
In 2011, there was a heightened depreciation of the shilling, in part on account of the election related fiscal slippages and increased money supply. It is projected that money supply will grow at higher rate of 17.5% in both FY 2014/15 and 2015/16 compared to 6.7% in FY 2012/13.   On account that the recent supplementary budget was largely recurrent, and funded in part by re allocations, it is arguable that the recurrent budget will account for more than 50% of the budget and a similar trend could be exhibited with the expansionary 2015/16 budget, as was in previous election years.
There is bi causality between the exchange rate and the current account (difference largely between exports and imports) - implying the shilling depreciation would spur more exports and reduce imports on account of relative respective prices. On the other hand, the widening current account deficit would have a weakening effect on the shilling. While the statistics show that Ugandan current account deficit has eased, it remains a sizeable share of GDP and susceptible to worsen, which leaves exchange rate vulnerable. The export basket remains narrow and is dominated by primary products, including coffee, fish, tobacco, gold, and flowers. The dismal growth in the Eurozone, suspension of vegetables to the Europe, conflict in South Sudan and Burundi should have a fair share impact on foreign exchange earnings through exports and remittances as well as aid transfers. The import bill will likely increase on account of the large import bill associated with large infrastructure projects.
There are a number of other factors inter alia, the increased visa fees impact on tourism, the envisaged slowdown in foreign direct investments due to the dwindling oil prices; election downward risks, and the US recovery. The periphery bound foreign exchange reserves will arguably compromise the credibility of central bank to stabilise the rate against volatility.



By and large, the increased dollarization of economy, with foreign deposits at UGX 4.578 trillion in March 2015 accounting for 36% of the total deposits from 33% in June 2014, is indicative of the increased preference of the dollar by key economic players. Against the backdrop of factors highlighted, taking a short position in dollar may be potentially lucrative. Given the exchange rate follows a random (volatile) walk; take my conclusion with a pinch of salt.
http://www.africanexecutive.com/modules/magazine/articles.php?article=8396&magazine=551

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