Inflation to remain manageable- BoU

Talking economics. Various African governments have imposed lockdowns and curfews to curb the spread of the coronavirus, but the restrictions are putting pressure on most economies. Eriasa Mukiibi Sserunjogi spoke to Mr Adam Mugume, the acting Bank of Uganda Deputy Governor on the fate of Uganda’s economy in the face of the current pandemic.

From your projections, how deeply is Uganda’s economy likely to be affected by the ongoing lockdown?

In the near term, activity in the Ugandan economy is likely to decline considerably to about 3-4 per cent in Financial Year 2019/2020 from BoU’s earlier projection of 5.5-6 per cent. Manufacturing, construction and the service sectors are the most affected due to the fact that a significant proportion of their inputs are imported.

Indeed, many firms are already feeling the negative effects. The services sector is projected to slow down significantly, with considerable effects on trade, hotels and accommodation, repairs, transportation, storage, financial and insurance activities mainly caused by a decline in tourism, travel restrictions and supply chain disruptions.

Although GDP growth is projected to gradually recover in the second half of FY2020/2021, the output gap is projected to persist until 2022.

However, there is significant uncertainty over the depth and duration of the current slowdown. The risks to economic growth are mainly on the downside stemming from the evolving nature and prolonged impact of the Covid-19 outbreak, and continued weakness in commodity-related sectors.

Given the evolving situation, it is difficult to predict how large and long-lasting the effect will be. Once the coronavirus is contained, the Ugandan economy is expected to return to an improving trend. This outlook is supported by high levels of spending on infrastructure and expected recoveries in construction and household consumption.

Do you have an estimate of how much the country loses each day if it remains in lockdown?

We have not estimated daily losses, but what we can say is that the lockdown will have negative effects on economic growth and employment. We are more likely to see people being laid off from several sectors of the economy.

As mentioned earlier, growth is expected to deteriorate, with the manufacturing, construction and services sectors taking the biggest hit.

The BoU has come up with some policy directions in the face of this lockdown, and has reduced its lending rate by a percentage point to eight per cent. Can you please take us through the other measures and the bank intends to achieve by each of them?

In order to mitigate the effects of the Covid-19 pandemic, BoU has directed Supervised Financial Institutions (SFIs) to defer the payments of all discretionary distributions such as dividends and bonus payments for at least 90 days effective March. This would ensure that SFIs have adequate capital buffers while supporting the real economy.

BoU will also undertake the following: Provide exceptional liquidity assistance to commercial banks that are in liquidity distress for a period of up to one year; Provide liquidity to commercial banks for a longer period through issuance of reverse REPOs of up to 60 days at the CBR, with opportunity to roll over; Purchase Treasury Bonds held by Microfinance Deposit-taking Institutions (MDIs) and Credit Institutions (CIs) in order to ease their liquidity distress whenever it arises. MDIs and CIs that do not hold Treasury bills or bonds in their asset holdings will be provided with liquidity secured by their holdings of unencumbered Fixed Deposits or Placements with other SFIs; Grant exceptional permission to SFIs to restructure loans of corporate and individual customers, including extending the moratorium on loan repayment for borrowers that have been affected by the pandemic, on a case by case basis at the discretion of the SFIs for up to 12 months, effective April 1.

Would you say the measures are working or is it too early to tell?

It is too early to tell the effect of the measures the BoU has put in place. To counter the sharp exchange rate depreciation resulting from volatility in the global financial markets and the rush to hold safe havens assets, BoU sold $198.9 million in March. This intervention managed to calm down the markets. However, they reduced inflows largely caused by the Covid-19 pandemic may further aggravate depreciation pressures in the domestic foreign exchange market. The resultant negative sentiments from investors may translate into a continued preference for safe haven markets. Overall, BoU will intervene in the foreign exchange market to smoothen volatility while letting the shilling adjust to external pressures.

Some economists argue that in times of crisis like this one, the government should not worry much about inflation. Is this a time you would be thinking about pushing a bit more money into circulation?

The mission of the BoU is to foster price stability and a sound financial system.
Therefore, inflation is extremely crucial even at this time. Bank of Uganda targets five per cent core inflation in the medium term. Currently, inflation has remained relatively subdued and the April BoU forecasts indicate inflation is likely to remain in the range of two to four per cent this year, and is expected to converge to the target of five per cent in the medium-term. Given the inflation forecasts, the BoU continued with accommodative monetary policy (expand money supply) by reducing the CBR by 100 basis points to eight per cent.
This should make it easier for consumers to borrow as money is less expensive and as a result, this could boost economic growth.

In your projections, let’s assume the lockdown ends on May 5, how long would the economy take to get back to its pre-lockdown state?

It is quite difficult to tell when the economy will return to its pre-lockdown state.
Our projections, however, indicate that the economy would start recovering gradually in the second half of FY2020/2021.

We are now in lockdown and the election fever will grip the country a few months afterwards. Have you made projections of how this double hit could affect the economy? What do you project as the best possible scenario, and what would be the worst?

Given the evolving situation, it is difficult to predict how large and long-lasting the effect will be. Once the coronavirus is contained, the Ugandan economy is expected to return to an improving trend.
If Uganda is successful at eliminating the coronavirus and the lockdown is lifted, election preparations would imply more government spending.
This would boost the economy, if the spending is on projects that would lead to economic growth.
However, the election period also tends to have adverse effects on the exchange rate. If the exchange rate depreciates, it could lead to inflationary pressures.
The best case scenario would be economic growth of three to four per cent in FY2019/2020 if the Covid-19 pandemic is temporary.
However, if the pandemic persists, it could affect the election period and we would likely see lower economic growth than projected.

Given the hard economic times that the country is staring at, we may speculate that the property market could be adversely affected as prices plummet. Would this be a proper reading of the situation, in your view?

As mentioned earlier, growth is expected to deteriorate with the manufacturing, construction and services sectors taking the biggest hit.
The real estate, a component of the service sector which makes up about 6.4 per cent of GDP, is no exception as it is likely to be affected by the Covid-19 pandemic.
It is, however, too early to tell the extent of the negative impact.

Uganda Vs Other East African Countries

In countries like Kenya, governments have reacted to the crisis by undertaking measures that ensure that people have more disposable income. Kenya has reduced income tax or suspended it altogether for low income groups, and ensured that all suppliers are paid. Uganda hasn’t taken such steps. What, I your view, is the explanation for this difference in approaches?
It is too early to compare the steps Uganda has taken with Kenya considering the number of coronavirus cases is much higher in Kenya. Moreover, Kenya recorded the first case of the virus before Uganda did. Uganda is taking the adverse effects of the virus very seriously and has undertaken several steps to curb this Covid-19 pandemic. Indeed, BoU has recently taken several steps to curb the negative effects of the Covid-19 on the economy and the financial system. BoU will continue to monitor the evolving financial market and macroeconomic conditions and take necessary steps to ensure the negative effects are mitigated.

Does the BoU closely work with other central banks, say those in the EAC region, in the face of this crisis?

Yes, the BoU liaises with other central banks, including those in the EAC region in the face of the crisis.