Desperate Times, Desperate Measures

BMI View: The 200bps rate hike and new rules for foreign exchange will have a negative impact on real GDP growth in Ghana. We are unconvinced that the moves will arrest the decline of the cedi, but we do expect the pace of depreciation to slow.

The Bank of Ghana's (BoG) decision to hike interest rates by 200 basis points (bps) to 18.00% on February 6 was indicative of the strong downside pressure on the cedi (see 'GHS: Further Heavy Depreciation Ahead', February 4). It was enacted at an emergency meeting of the Monetary Policy Committee (MPC), and the decision was based on 'highly elevated' risks to inflation and exchange rate stability. Inflation rose sharply in the final months of 2013, reaching 13.5% year-on-year (y-o-y) in December, owing mainly to a combination of past currency weakness and sharp hikes in utility tariffs in September 2013. The MPC feared that the recent bout of cedi weakness - the currency has depreciated by over 4.0% since the start of 2014 - would exacerbate inflation and instability and acted in an attempt to stem the depreciation.

The move followed hot on the heels of a new central bank directive, issued on February 4, which laid out several rules regarding the use of foreign exchange. Among other things, BoG specified that:

  • Cash withdrawals over the counter from foreign exchange accounts and foreign currency accounts shall only be permitted for travel purposes, and be limited to US$10,000.

  • Transfers from one foreign currency denominated account to another are not permitted.

  • Foreign exchange purchased for the settlement of import bills shall be credited to a margin account which shall be operated by the bank (ie BoG) on behalf of the importer for a period not exceeding 30 days.

  • No bank shall grant a foreign currency denominated loan to a customer who is not a foreign exchange earner.

A Sharp Hike
Ghana - Inflation & Interest Rates, %

Desperate Times, Desperate Measures

BMI View: The 200bps rate hike and new rules for foreign exchange will have a negative impact on real GDP growth in Ghana. We are unconvinced that the moves will arrest the decline of the cedi, but we do expect the pace of depreciation to slow.

The Bank of Ghana's (BoG) decision to hike interest rates by 200 basis points (bps) to 18.00% on February 6 was indicative of the strong downside pressure on the cedi (see 'GHS: Further Heavy Depreciation Ahead', February 4). It was enacted at an emergency meeting of the Monetary Policy Committee (MPC), and the decision was based on 'highly elevated' risks to inflation and exchange rate stability. Inflation rose sharply in the final months of 2013, reaching 13.5% year-on-year (y-o-y) in December, owing mainly to a combination of past currency weakness and sharp hikes in utility tariffs in September 2013. The MPC feared that the recent bout of cedi weakness - the currency has depreciated by over 4.0% since the start of 2014 - would exacerbate inflation and instability and acted in an attempt to stem the depreciation.

A Sharp Hike
Ghana - Inflation & Interest Rates, %

The move followed hot on the heels of a new central bank directive, issued on February 4, which laid out several rules regarding the use of foreign exchange. Among other things, BoG specified that:

  • Cash withdrawals over the counter from foreign exchange accounts and foreign currency accounts shall only be permitted for travel purposes, and be limited to US$10,000.

  • Transfers from one foreign currency denominated account to another are not permitted.

  • Foreign exchange purchased for the settlement of import bills shall be credited to a margin account which shall be operated by the bank (ie BoG) on behalf of the importer for a period not exceeding 30 days.

  • No bank shall grant a foreign currency denominated loan to a customer who is not a foreign exchange earner.

Clearly, the rules are aimed at reducing dollarisation in the economy, which has been elevated in recent years because businesses and consumers have tried to reduce their exposure to the depreciating cedi.

Cedi Under Severe Pressure
Ghana - Exchange Rate, GHS/US$

Will It Work?

The two policy moves - ie the rate hike and the new forex rules - will help to slow the cedi's losses, but the currency will continue to depreciate, in our view. As we highlighted in our currency forecast on February 4, the downside pressure stems largely from the wide and volatile current account deficit, which will likely remain in place given declining gold export revenues and strong capital imports.

Furthermore, foreign capital is flowing out of the bond market as yields rise in the US, and this is an additional propellant of currency depreciation. It is difficult to gauge how strong the flows are given limited data, but it is certainly noticeable that foreign holdings of local debt rose markedly throughout 2012 and 2013. We believe a significant proportion of this investment is 'hot money' ie yield-seeking funds that are now flowing out of the Ghanaian market. The 200bps rate hike will help to keep yields elevated - and strongly positive in real terms - but given the significant currency risk as well as various concerns regarding the wide budget deficit and rising debt levels, we do not think foreign investors will come flooding back any time soon.

Foreign Debt Holdings Elevated
Ghana - Holders Of Domestic Debt, %

Implications For Growth

We believe that economic growth will be negatively impacted, not just by the rate hike but also by the new forex rules. Regarding the rate hike, the monetary policy transmission mechanism is somewhat weak in Ghana, but lending rates nevertheless follow the broad pattern of the policy rate. The 200bps hike will significantly increase the cost of borrowing for businesses and consumers - both of which are already suffering from the aforementioned utility tariff increases. As regards the restrictions on forex, businesses will find it difficult to adjust to the new rules. A significant proportion of business transactions involve foreign exchange and the limitations will slow the pace of economic activity. It now looks likely that real GDP growth will dip below 6.0% in 2014, which would mark the weakest pace of growth seen since 2009.

Monetary Policy Transmission Mechanism Weak But In Evidence
Ghana - Interest Rates

Further Hikes Ahead?

As regards the outlook for monetary policy, it is possible that the MPC will hike rates again, especially if the currency continues its rapid descent. However, BoG tends to front-load interest rate moves, acting in sudden, sizeable steps, and the 200bps hike is a good example of this. This, coupled with the fact that it will take some time for the effectiveness of the new forex rules to be determined, augurs for rates to stay on hold at 18.00%, at least over the coming few months.

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