Shilling to keep depreciating
Posted Wednesday, January 2 2013 at 02:00
The low. The annual low of Shs2,710/2,720 was hit in mid-November as a widening current account deficit, aid cuts and falling yields on government debt piled pressure on the unit.
The Uganda Shilling was stronger in 2012 compared to 2011 where it experienced more swings. The gain in the Shilling value signifies that Uganda’s foreign exchange market was not very volatile as it was in 2011, which among other things, affected the overall economic performance.
The executive director research at Bank of Uganda, Dr Adam Mugume, in an interview with Daily Monitor said, the Shilling had depreciated by 10.7 per cent on annual basis compared to 2011 which it depreciated against the US dollar by 24.98 per cent.
Dr Mugume said the shilling traded from an average of Shs2,446.9 per dollar in 2012 compared to Shs2,673.6 per dollar in 2011. The Shilling started depreciating in the second quarter of 2012 (in October, November and December) following a pull out of offshore investors and the sudden aid cuts to Uganda.
The Shilling hit a low of 2,710/2,720 in mid-November as a widening current account deficit, aid cuts and falling yields on government debt piled pressure on the unit.
However, since January 2012, the average month-on-month depreciation has averaged 0.77 per cent, while quarter-on-quarter depreciation has averaged 0.26 per cent. “The noticeable fast pace of depreciation was in the current quarter which indicates a quarter on quarter depreciation of 5.3 per cent,” Dr Mugume said.
Dr Mugume said the factors responsible for the Shilling’s depreciation: decline in yields on the government paper from a high of 24 per cent to 15 per cent resulted in the offshore exits from the market.
The offshore investors normally invest more in the short term securities — 91 days — as opposed to long term securities—one year to 10 years. Since the offshore investors were largely holding one-year securities, they had to exit on maturity.
Uganda still receives considerable amount of development aid from the development partners who contribute 25 per cent of the country’s budget. This, in turn, has always supported the Shilling to appreciate against the dollar.
Corruption in government institutions, especially in the Office of the Prime Minister, led to sudden suspension of aid to Uganda by major development partners. Dr Mugume pointed out that the negative sentiments on Uganda, amplified by the recent donor aid cuts resulted in the fast pace of depreciation in the second quarter of the financial year 2012/13.
He said the volatility of international currencies had impact on the performance of the Shilling in 2012. Developments in the international system which started in 2011 and its subsequent spillover into 2012 are among the outstanding factors responsible for the poor performance of currencies across the globe, including the Uganda Shilling.
The persistent turbulence in the global economy which led to reduction in global Gross Domestic Product (GDP) by the International Monetary Fund to 3.3 per cent down from 3.5 per cent as measured in its twice produced reports on global economic and financial surveys has continued to have negative impact on world trade and aid flows.
Dr Mugume said: “Uganda’s external sector has continued to be weak due to the ongoing global turmoil that has reduced external demand of Uganda’s exports. Foreign Direct Investments (FDI), development aid, remittances and other flows have also been affected by the global turbulences.”
To ensure stability in the foreign exchange market, the Central Bank intervenes by either selling or buying for stability.
Dr Mugume said: “Yes BoU intervenes in the foreign exchange market on both sides but with a bias towards the purchase side because of the need to build foreign exchange reserves. So far, since January 2012, BoU has purchased on a net basis about $666 million.”
Explaining the advantages of a weak Shilling, Dr Mugume said the country stands to gain more because of increased earnings from trade in dollar terms. “If the weak Shilling was to reflect only economic fundamentals; this would be an automatic stabiliser as imports become expensive while exports become cheap, exerting pressure on the external sector imbalance.” This automatic stabilisation means that the BoU would not necessarily have to intervene.
Regional comparison on currency performance indicates that Uganda Shilling’s peer currency of East African states also marked considerable gains against the dollar during 2012. Dr Mugume explained that the Kenya Shilling has largely gained its level as of December 2011, the Kenyan Shilling was 86.9 per dollar and the average for December 2012 was 86.01 per US dollar.
On the other hand, he said the Tanzania Shilling has appreciated in the same period, from Tshs1,641.8 per dollar in 2011 to Tshs1,596.7 per dollar in 2012. For the Rwandense Franc, Dr Mugume said it had a volatile performance due to donor suspension. “Rwandense Franc has so far depreciated by 4.6 per cent between December 2011 and December 2012; from 603.4 per dollar to 630.9 per dollar, reflecting the impact of aid suspension,” he said.
In Africa, the South African Rand is the most traded currency. However, due to weak economic growth in South Africa which is projected to grow at 3.5 per cent below the African economic growth of 5 per cent for 2012 hence its weak currency performance.