Tongues begin wagging as Uganda shilling wobbles against US dollar

by Business Times correspondent
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Every time the Uganda shilling approaches a round figure exchange rate threshold against the United States dollar, tongues begin wagging. 

Currently, the shilling is flirting with the UGX4000 mark and has depreciated by four percent since the beginning of 2024. 

Some quarters have even suggested an economic crisis is unfolding. Yet during the past 20 years, the national currency has weathered other thresholds, UGX2000, UG2500, UGX3000, and UGX3500, and life goes on, causing the wagging to eventually die off.

With the present global uncertainty, the Uganda shilling is not the only currency under some pressure. On the other hand, it has fared much better than others including the Argentine Peso (-80%); the Nigerian Naira (-55%); Angola Kwanza (-39%) and the Zambian Kwacha (-29%).  In 2023, the Ghana Cedi was described as ‘one of the worst performing global currencies’ and before its recent rally, the Kenya Shilling had depreciated by 20%.

By all accounts, we should be grateful rather than panicky. It could have been worse. Uganda’s economy, (underpinned by sustained oil and gas investments), has shown resilience in recovering from the aftermath of the Covid-19 pandemic.  

Speaking in December, the finance ministry permanent secretary, Ramathan Ggoobi said, “Exports of goods and services have grown to $6.2 billion by the end of September. Tourism receipts have also recovered to $1.07 billion; remittances from Ugandans working abroad have increased to $1.4 billion while foreign direct investment (FDI) increased to $2.8 billion.”

As long as the economy is expanding at a decent rate, fluctuations in the forex market are bound to occur. Any differences in supply and demand will usually be corrected in the market. It is only when these movements are so extreme that the Bank of Uganda (BoU) will step in. As of now, BoU seems comfortable with the currency band the shilling is trading in.

As a liberalized economy, which allows the repatriation of profits, there are interludes when foreign shareholders of some of our biggest companies, expect to see their dividends in their bank accounts at home. As a result, the demand for dollars in the local forex market will inevitably rise.

This is a leading incentive that attracts investors to this country and one the Uganda Investment Authority is always proud and quick to highlight.

In the early 1990s, the government liberalized the foreign exchange market, deciding that allowing supply and demand will best give the true value of the Uganda shilling against other currencies. This period marked the entry of forex bureaus as new players in Uganda’s financial services. 

Previously, the government controlled allocation of foreign exchange, before this was handed over to the private sector on the basis of willing seller and willing buyer with market forces determining the rate. 

However, the local exchange rate responds to many factors, including several beyond our control, but which we can strongly influence. Foremost is foreign investor sentiment about Uganda’s economic prospects. If good—dollars flow in; if bad—not even a single cent.

Another major factor but often overlooked, is what the US Federal Reserve (central bank) thinks about the direction of the US economy.  When it raises or lowers its benchmark interest rate (Fed Rate), this has an effect on the rest of the world, because the US dollar is the leading currency of exchange. The costs of imports and exports are directly affected.

According to the International Monetary Fund (IMF) for the average Sub-Saharan African country, about 84% of exports, 67% of imports and 60% of external debt are priced in dollars.

The geo-political situation, a nice term for ‘war’, has been explosive during the past two years and Africa has borne much of the flak. Dr. Michael Atingi-Ego, the BoU Deputy Governor, said in the most recent monetary policy statement, “The risk of heightened volatility in the global financial and foreign exchange markets remains, which could spill over into the domestic foreign exchange market. Indeed, the recent shilling movements against the US dollar have been mainly driven by external factors and, if sustained, could lead to higher inflation despite easing global inflation.”

Mid last year, the IMF said, “The depreciations across the sub-Saharan Africa region were mostly driven by external factors. Lower risk appetite in global markets and interest rate hikes in the United States pushed investors away from the region towards safer and higher paying US treasury bonds.” 

Regular importers may feel the pinch when the shilling substantially weakens, but exporters are happy because their earnings go up. Due to the economy’s dependency on imported oil, consumers may also complain about some increases in prices for a variety of goods.

This brings us to two major domestic factors that influence the foreign exchange rate—inflation and interest rates. High inflation makes the Uganda shilling less valuable and discourages investors. Higher interest rates tend to strengthen the currency, encouraging foreign investors to, for instance buy domestic securities. But high interest rates also hurt Uganda’s private sector.

It is BoU’s job to regularly manage Uganda along this balancing act through use of the Central Bank Rate (CBR). It has remained unchanged since last year, at 9.5%. In other words: ‘steady as she goes’ and perhaps why we should not be overly alarmed about the state of the Uganda shilling. BoU presently sits on $4 billion of foreign exchange reserves, enough to cover four months of imports.

There are however, concerns about rising government debt, especially the foreign component that requires dollars. A weakening shilling would be an unwelcome trend.  According to Ggoobi, debt service now stands at 35% of the total government spending.  

Finance ministry officials insist government debt is sustainable, but there are plenty of skeptics who whole heartedly disagree due to the big expenditure plans staring at a thin resource envelop. The World Bank suspension for new lending was a significant blow.

Excessive borrowing from the international money markets and difficulties in paying back was a major reason for the Ghana Cedi to plunge 50% against the US dollar. To date, the Uganda government has been cautious by mostly seeking concessional loans rather than indulge in such things as Eurobonds. 

This could change, but if it does, there is going to be closer scrutiny of the shilling, by speculators, depending on what the government does with the new borrowings. Investors get nervous when governments take on too much debt and become spendthrift.

During the past decade, there have been numerous discussions about having alternatives to the US dollar as the world’s reserve currency.  The Chinese have fronted their Renminbi and the Europeans, the Euro, while the Japanese have talked up their Yen. But the dollar retains a strong hold on people’s imagination.

If on one fine day, someone were to give you a 100 dollar bill, first reaction would probably be to hug your generous benefactor. Not only because a quick mental calculation will indicate you are several hundred thousand shillings better off, but there is also a sense of security being in possession of American currency.

When our banks and forex bureaus start running out of dollars fast and BoU has nothing in reserve and we then find ourselves on kneels before the mighty IMF, that is when we should really panic. Until then, you adjust and life goes on. 

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