Foreign Currency

Foreign Currency Shortage Deepens, Government Reconsiders Franco Valuta

For developing countries, foreign currency is a necessary component to the success of manufacturing, overall industrialisation and greater inclusion into the global economy. Specifically, manufacturers, the purported backbone of what the Ethiopian government hopes to be a robust industrial sector, need foreign currency to import materials that are central to their enterprises. However, the country is facing a severe shortage of these funds, a dynamic that isn’t likely to change soon. To put the demand in perspective, the Commercial Bank of Ethiopia approved USD3 billion in foreign currency requests in two months, whereas the Bank earned that amount in the first six months of the current fiscal year. Furthermore, the government has meagre foreign currency reserves. So what’s being done to mitigate the situation? EBR’s Ashenafi Endale spoke with key insiders to learn more about the implications of the shortage and its potential solutions.

Dawit Abebe (name changed upon request) has been a sales engineer at a private company that manufactures metal products and imports construction machineries for more than 20 years. Despite years of experience, he’s had a difficult time contemplating how his company can provide the construction machineries it agreed to deliver for a client four months ago.
His company ordered crushers and other construction materials from Italy, after receiving foreign currency approval from the Commercial Bank of Ethiopia (CBE) last December.
We waited for six months to get the foreign currency approval,” says Dawit. “Although the on-time arrival of the machineries is doubtful – ordering and waiting is at least [a step in the right direction].”
These delays have proved cumbersome for his business operations. Over the last nine months, his company has failed to supply machineries for another road project in the State of Amhara for which the company won a tender and was contracted to supply within 180 days. Additionally, the company failed to supply construction materials and machineries for a building construction project in Addis Ababa in February, both due to a lack of foreign currency to import the products.
For a long time, getting foreign currency for imports was a big challenge in Ethiopia and requests were piled up at commercial banks until four months ago, when the CBE came up with sudden approvals.
Ephrem Mekuria, Communications Manager at the CBE, says that the Bank approved USD2 billion at the end of December and USD1 billion at the end of March. But currently, he says that most hard currency requests are approved for prioritised sectors, including manufacturing, construction and other large public projects.
The CBE earned USD2.3 billion during the first six months of the current fiscal year. “The [remaining USD700 million in requests] was filled from stocks and loans,” said Ephrem. “There are still too many requests on a daily basis. All requests should be approved but prioritising is a must in order to use the limited resources.”
Of the total foreign currency inflow of the CBE, 67.6Pct was earned from remittances. The earning from remittances increased by 5.7Pct as compared to the same period last year, while export earnings remain stagnant, according to Ephrem. “We have earned more foreign currency because we have been aggressively working on improving the quality of our service delivery, expanding more branches with foreign currency services.”
“Based on our foreign currency reserve, we are giving priority to national projects, import of agriculture and manufacturing inputs, exporters and the tourism sectors,” he says. “We approved too many requests at the end of December and we are also supplying foreign currency for the import of fuel and edible oil without interruption.”
Dawit’s observation is similar. “The shortage problem is back to its former place at the CBE, unless the request is for manufacturing inputs or other prioritised sectors, while the foreign currency shortage is still worse at private banks,” he stresses.
A president of a private bank, who spoke to EBR on the condition of anonymity, agrees with this assessment. “The shortage has created discomfort in the economy, but the manufacturing sector was particularly hurt by the foreign currency shortage,” he explains. “We are currently approving some of foreign currency requests, although we have little reserve.”
Experts say demand for hard currency is likely to remain strong, owing to large, public development projects, which are likely to have macroeconomic consequences. Alemayhu Geda (PhD), Professor of Economics at Addis Ababa University, says the foreign currency crisis started when government launched the construction of mega projects ten years ago. “Close to 80Pct of [these] mega projects have huge hard currency requirements,” he says. “Unless a [mechanism] of fulfilling these demands is created, the foreign currency shortage will continue in the future.”
The demand for hard currency is increasing in Ethiopia. In the 2014/15 fiscal year, Ethiopia imported goods worth USD16.5 billion, a figure that stood at USD13.7 billion and USD11 billion, in 2013/14 and 2012/13, respectively, according to a report published by the National Bank of Ethiopia (NBE).
Of the 2014/5 total import bill, the share of capital goods rose to 42Pct, up from 35.3Pct in 2013/4, while the share of consumer goods increased to 27.4Pct in 2014/15 compared to the previous fiscal year’s figure of USD3.7 billion. As a result, the share of import to gross domestic product (GDP) jumped to 26.5Pct in 2014/15, up from 25Pct in 2013/14.
On the other hand, export earnings declined by 8.5Pct, reaching roughly USD3 billion last fiscal year. In January and February – the months in which CBE started approving long-awaited requests en mass – goods worth USD3.1 billion were imported into the country, according to data from the Ministry of Trade (MoT). However, the export earnings during these two months were USD441.1 million.
As a result, the net foreign assets of the banking system recorded a reserve decline of USD521.4 million, due to decreases in the net foreign assets of commercial banks by USD614.3 million, while that of NBE rose by USD92.9 million, according to the 2014/15 report published by the NBE. Hence, the gross international reserves of the central bank were adequate to cover only 2.5 months of imports of goods and non-factor services for the following fiscal year.
Despite such huge gaps, however, Abiy Bekele, General Manager of AB Plastic Factory, which manufactures household plastic products, says foreign currency approval at the CBE has improved since the end of December. “We waited for six months at a private bank but we didn’t receive the go-ahead,” he recalls. ‘‘Then we requested [a foreign currency permit] at the CBE three months ago and [received approval] within 20 days.”
For people like Abiy who are engaged in priority sectors, the problem is not getting approval for foreign currency request, but mobilising 100Pct of the approved hard currency amount in birr. This is because of a new directive issued by the NBE in February, which tightens access to foreign currency. “How can you get 100Pct of [the equivalent in birr] at once?” asks Abiy. “It is crunching our stock and decreased our working capital.”
Indeed, just after the CBE started approving long-awaited requests at the end of December, importers have withdrawn close to ETB5 billion from private banks and deposited it at the CBE, in order to fulfil the 100Pct deposit requirement of the NBE, which was 30Pct before the issuance of the directive.
It also states that importers can request foreign currency only at one bank with one invoice, unlike before, when they solicited funds from many banks with one invoice in hopes of getting approval from one of them.
Furthermore, the directive states that a given bank should prioritise the import of fuel, fertiliser and other agricultural inputs, pharmaceutical products, factories’ requests for procurement of machineries, equipment, spare parts, raw materials and accessories, and import of nutritious food for babies. The NBE also reviews the banks’ foreign currency utilisation every month, while they have to report it daily, according to the directive.
“The 100Pct deposit requirement hinders businesses from requesting hard currency from many banks,” argues Abiy. “And there are not many that have enough foreign currency reserve, so requests will concentrate on a few banks.”
However, Yohannes Ayalew, Chief Economist and Vice Governor of the NBE, argues that the 100Pct deposit requirement only applies to imports under the Cash Against Document payment mode, a system in which an exporter instructs a bank to hand over shipping and title documents to the importer when the importer fully pays the accompanying bill of exchange or draft.
Officials argue that the regulation ultimately protects the country’s economic interest. “The directive is issued to protect the country’s image, because some importers do not pay the supplier after receiving the imported commodity if the profit they receive is not satisfactory,” Yohannes argues. “Since up to 80Pct of import to Ethiopia is through the Letter of Credit (LC) payment mode, the directive has little impact on the [majority of the] importers.”
The LC guarantees that a buyer’s payment to a seller will be received on time and for the correct amount. In the event that the buyer is unable to make payment on the purchase, the bank will be required to cover the full or remaining amount of the purchase. In addition to these two modes, the NBE also allows companies whose investment origins are from outside Ethiopia to use Franco Valuta after getting a license.
A Franco Valuta license is issued to importers of goods on which no foreign currency is payable. It is through this method that a seller receives payment from a buyer prior to shipment or the agreed upon goods or rendering the agreed upon service through the bank transfer, no foreign currency is payable in this case and the process is handled by the NBE.
According to a foreign currency directive issued by the central bank, it may provide these licenses to importers of goods on which no foreign exchange is payable. Eligible parties include government institutions to import machinery and goods with financial assistance from foreign governments, international organisations and donor agencies for programmes and projects that have obtained prior approval through agreements entered into with the government.
Additionally, goods imported by international organisation, donor agencies, diplomatic and consular missions as well as machinery and goods imported by foreign investors having license from the appropriate government institution, and Ethiopian investors permanently residing abroad are included in this category.
As a result, some companies in Ethiopia use this method. “We have been using Franco Valuta to import materials for expansions and also to import half of our factory inputs, including barley,” says a manager of a beer company, who spoke on the condition of anonymity.
Other companies, like Meta, do not use Franco Valuta for the normal operations of its business. “Meta rarely uses it to get hard currency for capacity expansion, because it is not a standard business operating procedure,” said Blayne Tesfaye, Communications Manager at Meta Abo Brewery, which is owned by Diageo.
According to a paper entitled “Policy Rules and Bidding Behaviour in the Ethiopian Foreign Exchange Auction”, published by Janine Aron in 1998, before the Franco Valuta market was banned in August 1996, a USD40 million demand was satisfied through the Franco Valuta market per month on average.
Although Franco Valuta might seem a way out for countries that struggle with foreign currency shortages, government officials say it has hidden venom. “Franco Valuta is not encouraged in Ethiopia as well as many other countries, because it opens the way for an underground currency trade,” argues Yohannes.
Alemayehu agrees: “Unless the central bank has a mechanism to trace the source of foreign currency, it is better not to allow Franco Valuta for normal business operations.”
This, he adds, will have grave macroeconomic implications. “Local companies will buy the currency from the black market, send it abroad and take it back as if it is sent from a parent company, and that will inflate the price of the currency and leads to devaluation of the local currency. But if the NBE has the right mechanism and capacity to follow-up on the exact source of the currency, Franco Valuta can help companies during foreign currency shortages.”
However, Nenomsa Mergo, Customs Procedure Senior Officer at the Ethiopian Revenues and Customs Authority, says that the government is preparing a legal framework to allow more companies to use Franco Valuta. “Previously, only foreign as well as joint venture companies that export all their products were allowed to use the system,” he says. “Soon, foreign companies that produce for the local market will be included. Additionally, the limit that was imposed on companies will be lifted unconditionally.”
The new directive will be finalised and put in place by July. The Authority is delegated by the NBE to permit and monitor companies that use Franco Valuta, according to Nenomsa.
Still, this mechanism aims at mitigating the short-term effects of foreign currency shortages; there is a larger issue of a lack of monies that needs to be addressed, especially as the government looks to boost manufacturing and export performance. To that end, Ephrem says the CBE is currently crafting a five-year strategy, with comprehensive packages to expand the means of earning foreign currency. ‘‘The strategy will give more focus to remittances and export,’’ says Ephrem.
The aforementioned private bank president also stresses that the solution for the foreign currency shortage depends on the intensity of banks to work on hard currency inflow. “Moving towards foreign currency sources vigorously is essential to overcome the shortage and supply as much foreign currency the importers are demanding.”
Yohannes argues that the growing economy puts more foreign currency pressure on the country. He says providing hard currency to investors based on development priorities is the only option. EBR


4th Year • May 16 2016 – June 15 2016 • No. 39

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