In Praise of a More Flexible Forex Regime

Dec 28 , 2019
By Million Kibret

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Tough it is naïve to expect a smooth ride on the road to adopting a more flexible forex regime; Million Kibret argues it is detrimental to ignore the potential reform.

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During old times, a governor of a town decreed a price cap on oxen. According to his proclamation, an ox should not fetch more than 10 silver coins. At the time the average ox had a market value of at least 20 silver coins. While many ox traders were shocked by the decree, a few soon reverted to a new sales strategy.

According to their strategy, they will never sell an ox alone. They claimed that they do not want their beloved oxen to stay hungry in the hands of the buyer until he will be able to source the right animal feed.

Therefore, they will sell a sack of straw together with the oxen. They set the price of each ox at 10 silver coins, as per the proclamation, and they priced the sack of straw, which otherwise could not be sold for more than a couple of silver coins, at 15. But they were only sold together.

Almost everyone agrees that a dollar can currently fetch more in terms of local currency than what it is being traded for locally. The regulator has set a price cap for forex trading and even formally trading financial institutions somehow practice the ox-with-the-straw pairing game. Many of our commercial banks have devised a marketing gimmick promising to give out various types and forms of raffles when one receives forex through these banks. The cost of these marketing activities, if monetized, can be added to the selling price of the foreign currencies, effectively increasing the Birr-to-dollar ratio.

In this hide-and-seek game, the country is losing out on the international trade and investment arena. Global capital is like a spoiled kid always looking for places where it can enjoy simple and posh treatment. It prefers easy entry and exit to shuttle in and out of any jurisdiction as and when it wishes. Various governments, falling into the short-sighted trap, block outgoing forex to boost their reserves only to find that they lose out on the bigger global capital game. It does not take an economist to determine the fact that had there been easy entry and exit of hard currencies to and from Ethiopia, numerous accounts held in foreign currencies belonging to Ethiopians and expatriates would have made the country home to their bank accounts, the aggregate effect of which will be significantly higher forex reserves.

On the other hand, capital always has its way of adjusting for its real value when its price is artificially depressed by decree in formal markets. Such informal price adjustment processes usually create unwanted transaction costs, non-competitive markets and increase the cost of doing business in a country resulting in a burden to the society and inflationary pressures on the masses. This is not to mention lack of transparency resulting in corruption and evaporating government tax revenues.

We can consider the current price of various imported material only to find the fact that the local price of imported products ended up being one of the most expensive in the world despite the depressed Birr to forex rates used in the formal markets. The queue method of allocation of forex for importation has resulted in a few well connected, favourably treated traders who enjoy a monopoly status for their imported products enabling them to command whatever margins they desire. It is also disheartening to observe the well to do and well-connected ones managing to buy the dollar at formal markets at lower prices while the non-connected and the disadvantaged are forced to look for alternatives incurring significantly higher costs.

The current managed exchange rate regime is hurting the sources of forex for the benefit of users of hard currencies. While the sources are forced to surrender their hard-earned hard currencies using lower than market rates, these low prices are enjoyed by importers, who, unlike the sources, are in liberty to shoot up the prices of the goods they import to the roof.

Adopting a more flexible forex regime is like that sour pill we need to take to cure our illness. The sour pill is a must to take. By deferring it, we are shunning reality, and this will only extend our plight. As the old adage has it, if we have to eat that ugly frog, we will be able to focus on our daily routines throughout the rest of the day by eating that frog first thing in the morning.

It is therefore high time the government adopted a more flexible forex regime. However, it is naïve to expect a smooth ride on this important road. Like any landmark change of policy, price surges as a result of irrational exuberance are expected. But this can be managed with the assistance of international agencies, who can work with our government by injecting resources required to tame the temporary glitch resulting from irrational exuberance until the dust settles. Prices often act wildly more as a result of self-imposed fear of the unknown than dictated by supply and demand on the ground. As it has been said time and again, the planet has much more than its citizens need. We need to tame our thoughts of what we think we need.

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PUBLISHED ON Dec 28,2019 [ VOL 20 , NO 1026]

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