Rising Currency Volatility in Africa

Dec 13^th 2011

Since the beginning of 2011, currency depreciation has occurred in South Africa, and the Rand monetary area, comprising Lesotho, Namibia and Swaziland, and also in Botswana (Figure 1). Mozambique is the exception where, in fact, the currency has appreciated by about 20 per cent to date.

* Figure 1: Movement of selected African currencies against the U.S. dollar. (Index: January 3rd 2011 = 100) Source: AfDB calculations based on Bloomberg

Furthermore, other countries have experienced currency volatility and depreciation. These include Ghana, Kenya, Nigeria, Tanzania, Uganda, Burundi and Rwanda. This has been noted by the central banks and some of them have taken action.

The reasons for this currency volatility include:

• Rising fuel and food prices: Terms-of-trade changes are key factors driving exchange rates movements, although the impact varied widely across the region. The rise in food and fuel prices has led to higher import bills and significant balance of payment gaps, triggering fast depreciation and high volatility of currencies in net importing countries such as Kenya, Tanzania and Uganda.
• Declining foreign reserves: Amid ongoing concerns over the Eurozone debt crisis and the global economic recession, a tightening of credit conditions in international financial markets and a decline of confidence has driven investors into safe haven assets. As a result, larger depreciation and sharper increase in volatility were noted in the countries that had previously received a significant amount of portfolio inflows (ie Ghana, Kenya and Nigeria).
• Domestic macroeconomic policies: In spite of the recent surge in inflation, monetary policy remains accommodative in most countries in Africa, which may amplify inflation and accordingly lead to depreciation of currencies. In fact, some African governments have maintained easy monetary policy (i.e. lower short term interest rates) in order to stimulate economic growth.
• Structural factors: Increasing demand for foreign exchange caused by country-specific situations might be another explanatory factor. For instance, due to low development in its refining capabilities, Nigeria exports a substantial amount of the oil it produces and imports refined oil products. The government administers a petroleum subsidy programme estimated at US$6bn (in 2011). Oil importers in the country are allowed to participate in the wholesale foreign exchange market. Reports have shown that external reserves were increasingly being influenced by demand for foreign exchange from these oil importers, leading to pressures on the naira. This year alone, oil importers have bought US$7bn from forex auctions.