BoU says food prices will go down in 2023

Ahead of the expected bumper harvest of the current season, the Central Bank projects food prices in the country to go down even as it paints a bleak picture of the economy in the coming year.

2022 has been characterised by hardship with the cash-strapped government struggling to steer the economy amid a cost of living squeeze and the threat of a global recession.

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In the latest “State of the Economy Report, December 2022”, the Bank of Uganda (BoU) is optimistic that its tight monetary policy will rein in the high inflation that’s imposing a severe adverse impact on lower income groups which spend a considerable amount of their already squeezed incomes on food.

Despite signs that inflation is peaking and losing momentum, BoU says inflation continues to be consistently higher than the objective.

While annual core inflation fell from 8.9 percent in October 2022 to 8.8 percent in November 2022, yearly headline inflation reduced marginally from 10.7 percent in October 2022 to 10.6 percent in the same month.

“Indeed, the annual electricity, fuel and utilities inflation, has continued to fall after peaking at 19.6 percent in August 2022 and has since declined to 12.2 percent in November 2022. However, the main factor backstopping the fall of inflation remain the lagged impact of the drought which is still putting upward pressure on food prices,” the Central Bank notes, adding: “However, the elevation of food prices is temporary and should dissipate with the full harvests of the current season coming on board”.

Cautious optimism

BoU’s optimism should, however, be treated with caution. In October, with the onset of the rains, the government announced food and fuel prices to go down. Only the fuel prices slightly lowered and are yet to go back to Shs3,700 for petrol and Shs3,200 for diesel in July 2021 when they began to rise. Currently, the average price of a litre of petrol is Shs5,500 while diesel is selling an average of Shs5,380.

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The Central Bank further projects the economy to grow in the range of 5 to 5.3 percent in the current financial year, driven by improvement in agricultural productivity as a result of government interventions, investments in the oil sector, and a rebound in industrial activities.

BoU, however, warns that growth could be lower than projected should the Ebola epidemic worsen, implementation of oil-related projects be delayed, financial conditions and fiscal policy get much tighter or a global recession materialises.

In just a year, Uganda moved from a surplus to a deficit of more than half a billion dollars in her balance of payments (BoP). A deficit in the BoP implies a higher demand for foreign currency to the detriment of the Uganda shilling, which would depreciate in this situation.

“The financial account surplus recorded a steep contraction due to a surge in the outflow of short-term capital and shrinkage of loan disbursements to the government amid increased external debt service,” the BoU report states, adding: “The combination of a widening current account and reduced financing resulted in an overall BoP deficit to a tune of $545.2 million in the year to October 2022 from BoP surpluses recorded for similar periods in the previous two years.”

Uganda’s gross reserves also contracted to $3,610.8 million or equivalent to 3.5 months cover of imports of goods and services at end of October 2022, down from a stock of $4,331.2 million equivalent to 4.8 months cover of future imports of goods and services as at end October 2021.

Uganda imports more than it exports, which puts pressure on foreign currency reserves due to persistent growth in foreign exchange outflows. The drop has also been worsened by the volatility in the global economy, which has caused an increase in prices of key import commodities such as fuel.

Public debt burden

Public debt servicing continues to exert pressure on domestic revenues, according to BoU.

“Although most debt risk indicators were within the 2018 PDMF (Public Debt Management Framework) thresholds, domestic debt interest payments continued to be in breach, reflecting liquidity pressures on the domestic revenues to finance the domestic debt liabilities at the expense of other priority budgetary items. Moreover, external debt serving which is projected to average $1.3 billion per year between FY2022/23-2025/26 remains a major strain on international reserves,” the BoU notes.

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Uganda’s public debt is set to increase from the current 48.4 percent to 53.1 percent in 2023, according to the estimated budget for the Financial Year 2023-2024 released by the Finance ministry.

For a debt to be sustainable, particularly for developing countries, of which Uganda is part, the International Monetary Fund (IMF) says it must not exceed 50 percent of the country’s gross domestic product (GDP).

BoU says Uganda’s public debt remains sustainable and the Central Bank says it will gradually ease and return to the government target of 50 percent by the end of Financial Year 2024-2025.

The budget framework paper is more cautious, projecting Financial Year  2025-2026 to return within the 50 percent benchmark. In the next financial year, Uganda will spend almost Shs9 trillion on debt repayment and servicing.

Cost of borrowing

Lending rates, according to BoU, have exhibited an upward trend with commercial banks raising their prime lending rates by one percentage point on average.

Overall, the Central Bank says the shilling lending rate rose to 18.4 per cent in October 2022 from 18.2 percent in September 2022. The price of borrowing money rises when interest rates do as well.

This raises the price of purchasing some products and services. Consumers spend less as a result, which lowers the demand for goods and services.

When consumer demand for products and services declines, businesses reduce production, firing employees, which raises the unemployment rate. In general, the economy weakens when interest rates rise.  The opposite is true when interest rates are reduced.

Last month, Moody’s—a credit rating agency—downgraded its outlook on Uganda. Moody’s largely cited the increasing external debt-service payments, a more challenging external environment marked by tightening global financial conditions, and an erosion of the foreign exchange buffer, Uganda’s external vulnerability risks are increasing.

Debt affordability is also deteriorating at a more rapid pace than the median of B2-rated peers, and the shift towards a tighter monetary policy stance as well as tighter global financial conditions imply a sustained rise in financing costs that risks limiting Uganda’s fiscal space and shock-absorption capacity.